There are different parts of option chains that have different reaction times. Closer to the money options have higher frequency responses. I use this approach to trade in wide variety of time frames from 10 â 15 minutes to 2 â 3 weeks. It is, however, not very useful for sub-minute ranges or at least I could not find it being efficient on the shorter time frames.
How Do Options Make Predictions?
- Thread starter kjb1891
- Start date
There are different parts of option chains that have different reaction times. Closer to the money options have higher frequency responses. I use this approach to trade in wide variety of time frames from 10 â 15 minutes to 2 â 3 weeks. It is, however, not very useful for sub-minute ranges or at least I could not find it being efficient on the shorter time frames.
Again, thanks for the response. I suppose it could be used by someone looking for robust setups, regardless of time frame. This remains well over my head, but how do you explain dagnyt's comment about those call buyers who are using call options to create "synthetic puts?" Does the apparent synchronicity you described earlier not become potentially quite deceptive?
Again, an excellent question! Yes, an individual behavior could potentially be quite deceptive. However, synchronized change in premiums of a long chain of options is immune to it; the same way one idiot (could be even a president) is not an indication of an entire nationâs intellectual level.
So you are saying that if there is a preponderance of buyers for call options, then it is safe to assume the group is net bullish and that any hedge plays or otherwise typically represent only a small fraction of the total? If so, how confident are you, generally? Very? Somewhat?
I am afraid that you drew a wrong conclusion here. I am saying that the information is not in the actual numbers but rather in their relationships and relative frequencies between the changes in the option parameters. This relationship is extremely reliable and very predictive. The phenomenon of spontaneous synchronization is one of the most reliable indicators I have ever experienced. The school of fish spreading away from a predator exhibits a very unique pattern that has nothing to do with the individual fish escape path.
Okay, thanks. Fascinating stuff, but I'm clearly out of my depth here and should best stick to my knitting. Thanks for bringing that home. 
Imagine the mythical "smart money somebody" learning something that is likely to make an individual stock make a significant move. This person is likely to have at least a little time to think through an action - the easiest action to take that doesn't disturb the market in the stock itself is going long an OTM position. This also has the advantage of (usually) being the most leveraged position as well (assuming they don't do something stupid).
Then you move to the next ring of players. They have second-hand information on this likely big move - but they also know it's second hand information so they are likely to take a position that's somewhat less likely to be "all or nothing".
Then the third ring out, with third-hand information...
Then active retail...
Then passive retail...
Then CNBC...
Then the pro mutual fund manager...
Ok you get the picture.
In each step outwards from the center of information, the confidence in the information gets weaker and weaker. The tendency then will be to take positions nearer and nearer ATM, as it will be perceived as being less risky. Until finally you're at the typical fund level where they're so ATM that they're buying the actual stock.
With each step outward, there should be a jump in IV, or change in Greeks consistent with increased sensitivity to directional movement - starting somewhere way OTM, and migrating inwards towards ATM, until finally the stock itself is moving.
As always, comments more than welcome.
Then you move to the next ring of players. They have second-hand information on this likely big move - but they also know it's second hand information so they are likely to take a position that's somewhat less likely to be "all or nothing".
Then the third ring out, with third-hand information...
Then active retail...
Then passive retail...
Then CNBC...
Then the pro mutual fund manager...
Ok you get the picture.
In each step outwards from the center of information, the confidence in the information gets weaker and weaker. The tendency then will be to take positions nearer and nearer ATM, as it will be perceived as being less risky. Until finally you're at the typical fund level where they're so ATM that they're buying the actual stock.
With each step outward, there should be a jump in IV, or change in Greeks consistent with increased sensitivity to directional movement - starting somewhere way OTM, and migrating inwards towards ATM, until finally the stock itself is moving.
As always, comments more than welcome.