As option traders we must always be aware of the various factors that affect options. A lot more so than regular stock traders. One thing we must pay attention to is volatility and what it is doing to options. Simply, we will want to sell “expensive” options and buy “cheap” options. Now the terms expensive and cheap are relative and don’t mean much if we don’t say what they are relative to.
In this case we will say options are cheap when volatility is lower than normal and options are expensive when volatility is higher than normal. Google (GOOG) has been on a nice little run up as of late.
This run up along with the general market has dropped GOOG volatility to 52 week lows. Thanks to the CBOE we now have VXGOG to look at which is the volatility of Google.
Looking at the volatility we see it hovering around the lower 20s. We can also see the average volatility run around the higher 20s.
So what do we do here? Buy calls? Buy puts? Something else? The one thing we know is that volatility is low. We still have no idea if the price is going to go up or down. Therefore, we want to avoid the puts and calls and focus on volatility plays. There are several volatility plays but the one I like here is the straddle.
The long straddle is used when you expect a large movement but unsure of which direction. It is also a great play to use when we are looking for volatility to expand.
The trade we are looking at here is the September GOOG 640 Straddle.
Looks like we have a 35 debit pushing our breakeven spots at 605/675. That is a move of 5% in either direction which is something Google should achieve in the next month. Again, we are not banking on the move as much as the uptick in volatility. We get a big move, say +10%, in volatility we can go ahead and close out the trade.
Still not sure about the trade don’t take a large position stick with a 1 lot to get a feel for how it works.
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The one thing we try to focus on in our blog is a study of the VIX. We’ve done several post on what the VIX is so we won’t go into that here.
The VIX can be an excellent tool for any trader as it is, in my opinion, one of the best indicators for the market. Unfortunately the VIX is not as cut and dry as most indicators. When we look at the McClellan Oscillator or Stochastics we can look at the indicator and see if it is over a certain value then it is overbought or if it is under a certain value it is oversold. That is a pretty cut and dry approach.
It is not that simple when we look at the VIX. We cannot see overbought/oversold or any other type of indication from simply looking at the number. The VIX is not a 1-dimensional indicator that we can simply look at and be done with. We must dive deeper. The VIX is a complicated machine that has a lot of extra parts. When getting a read on the VIX we need to look at the futures, contango/backwardation, skew, S&P 500 strike implied volatility, and relative nature to the S&P 500.
For now we will just look at the VIX as it is relative to the S&P 500. When we see a -1% drop in the S&P 500 like we saw last week we immediately expect a big up move in the VIX. Normally, but not always, we will see a +7% move in the VIX for every -1% move in the S&P 500. So we got our big move in the S&P 500 and the VIX. However, on the next day we again saw a big -1% move in the S&P 500 but we did not get the same move in the VIX.
Let’s look at a chart of the VIX:
Notice the last two days on the chart we see big up moves in the VIX.
Now look at a chart on the S&P 500:
Again look at the last two days on the chart. As you can see by the last two candles we kept moving lower and lower in the market but we were not getting the same type of reaction out of the VIX. We would expect bigger moves out of the VIX to keep up with the market. When the correlation breaks between the S&P 500 and VIX we must take notice. It doesn’t matter what number the VIX is at >20 or <20 but="" how="" it="" is="" reacting="" to="" the="" s="" p="" 500="" br="">
Even though the sell off was hurting the market there was no fear left. That is when we decided the market was going to bounce. We started to shed our short positions and look for longs to take overnight. Two days later we get a +1.5% bounce and then a +2% bounce out of the markets.
Studying the VIX can help you tell when the markets are fearful or not. It will help you stay in tune with the markets themselves.
Anything that runs up fast and strong has to come back down and that is where we get Parabolic Shorts. A parabolic move is when a stock basically comes from nothing and just runs straight up without trying. We saw this kind of move in GY. The best way to know when something is parabolic is to throw bollinger bands on it and see if it is completely outside of them. When something is far outside its bollinger bands it is going to want to pullback. Another good key is a weaker volume as the run up goes on. This is when we look to short these babies! Parabolic shorts make good day trades but even better swing trades because the pullback will usually last 2-3 days.
The futures are screaming higher this morning so definitelty mind the gap we are about to have in this market. I will be sitting out the first couple of minutes to see what the market is going to do. We will either fill that gap and make it easy to short or we will have a trend day and we might get some longs out of it. Gap up days are the hardest to deal with because when we gap up so much we don't have much more space to run and it makes it very difficult to get in positions. Just in case I provided some shorts and some longs to go in the watchlist.
In this video we look at how we played the intraday setup on GALT this morning scoring a huge win in our portfolio +4% in 15minutes. These stocks that gap up in the mornings can be HUGE runners and make for some epic trades! Find the stocks that are going to gap up and keep them on your watchlist and wait for the setup.
I’ll sleep when I’m dead has always been my saying to live by (one of the many). I was always the late to bed and early to rise type of guy. Unfortunately a good night of sleep and trading go hand in hand. Trading is a profession that will attack you on all levels, and if you are not prepared you will get eaten alive!
Last night I did my normal midnight sleep and up at 6:30am. When I woke up I knew I hadn’t had a good sleep, knew I had been tossing and turning, and now I was tired from it. Well one tired day won’t kill you, but then I took it a step further.
I sat down at my computer, did my routine, waited for the market to open, and began to trade. I had all my setups prepared and ready to take on the trades. Morning bell rang and I started to move into some trades, 3 to be exact. So good so far..
This is where the trouble begins to happen. My positions start becoming profitable (go figure!). So far the plan is going according to plan. My trades are processes I’ve done many times so it requires no thinking. Get in at this point, scale out here, and set stop here.
Well, as it turns out, being a tired trader makes it hard to be quick. When you are a momentum trader making day trades it helps to be quick. I watched my portfolio go from +2.5% to -2% because I wasn’t fast enough to scale out and manage my trades. My process was broken because my eyes weren’t seeing the numbers fast enough, my brain wasn’t calculating the shares fast enough, and my fingers couldn’t click the buttons fast enough. This was a recipe for disaster. I saw a 4% portfolio swing just because my normal sleeping hours were interrupted with tossing and turning.
Trading is a mental game, and if you are going to win you need to be prepared.
Finally the Greek elections have come out this weekend and the World Europe is saved. Well maybe not but the markets finally got over another speed bump. Last week we saw a rise in volatility as insurance was being bought up to protect against weekend news. We noticed several correlation breaks between the VIX and the S&P 500. VIX lost its bid when rumors started to fly from overseas.
Monday after the big “bust” from the weekend we saw traders trying to cover those insurance plays. The morning started off slow with a slightly down market, yet we also had a slightly down VIX. This gave away to the great rug pull in volatility as VIX came crashing down 13% today. With nothing ‘major’ on the horizon we should see a decreased volatility, at least in the near future.
The inverted head and shoulders pattern we laid out in last week's Market Analysis played out perfect. Taking a quick look at the bull and bear case we can see the overhead resistance of the 50 day moving average. The bears will have a good risk/reward here to put on more shorts. Looks like the futures are down this morning with not much coming out of Greek elections and Spain news coming in this morning. Gap downs are typically a lot easier to trade than a gap up due to the fact we can get a hard reversal and go green during the day.