Is option daytradable?

[mizhael]

Quote from NoDoji:

Mizhael, I occasionally day trade very liquid options on high priced stocks approaching major support or resistance levels. It's an especially strong strategy when the S/R level is approached rapidly based on news. The advantage is you can leverage far more shares than if you traded the stock.

One example from my trading journal was back on 7/31/08 when MA reported earnings pre-market, which were not bad, but they had a large writedown due to a lawsuit, and the stock started selling off hard, continuing to do so on open. I knew that the next major support level was $235, which was also at the 200-day moving average. If it approached that price, there was a 99% chance it would bounce hard. Setups like this are a gift from the market, take advantage!

Sure enough it bounced off $237 and the moment it retraced to $238, I put on 10 calls at a price of 11.10. Now, there is no way I would want to hold these contracts longer than a day trade, because a) a bounce off major support nearly always drops back to retest, and b) the earnings news meant the IV (implied volatility) was off the charts and the options were overpriced, so even if the stock price stayed in the same range for the next several days, the options would lose value quickly.

My account size limited me to trading only 100 shares of this high priced stock, but with the options I was able to control 1000 shares for an $11,000 outlay.

Sure enough the bounce made it all the way to $256, where it stalled and pulled back, so I closed the position for a $3800 gain in in less than an hour.

(And, as expected, MA retested $237 and broke down badly.)

Trading the stock with my acceptable position size would've gained only $1700, so the options as a day trade made more sense.

As other posters here have stated, many options are so liquid and the spread so tight, it's worth day trading them for more leverage on less capital outlay. APPL is another example, with the spread sometimes .01 cent and rarely more than .05 cents at or near the money.

As in all trading, set your risk management rules in advance and honor them. My journal has cautionary tales of what happens when you don't do that.

Best of luck to you!

Thanks a lot for sharing your invaluable experience on this. Great to read about your trade journal.

Would you compare daytrading an option vs. the futures? For single stock, the Single Stock Futures are not liquid enough. But for indices, there are both futures and options. Looks like your strategy works for futures also. Would futures daytrading need even less cash outlay?

Could you please recommend some good books about day trading using your method or similar method? What's a good way to do risk management under this scenario?

Thanks!

 

[mizhael]

Quote from dagnyt:

Technical setups are not as easy as 'do this.' If it were, everyone would do it.

Risk management consists of a set of guideline that you establish because

1) you feel comfortable with them

2) it allows your trading style and methods are enhanced by those risk management rules

3) You cannot take rules such as 'never allow a trade to lose more than x% of the cash invested' unless that fits with what you are doing.


I appreciate all your questions. Youa re eager to learn.

But you are trying to do too much at one time. FIRST learn how options work. Find a comfort zone that includes a strategy or two that you prefer. There is little chance that you will decide that buying options is the strategy that works for you - and that's important because your money management and risk management rules will depend on the types of trades that you make.

It takes a long time to develop the skills and the rules that will suit you. My rules are totally inappropriate for you. As are the rules used by others.

I know how you feel. You see big potential profits and you want to start NOW. Well, you simply can't - unless you just want to gamble.

This takes a bit of patience. One step at a time.

Mark

Thanks a lot Mark for your invaluable advice! I've learned a lot from you! Yeah, I am a very fast guy in life. But it doesn't mean I have chosen fast-trading as my long term investment strategy. I am exploring these things because (1) want to train myself to be able to handle both fast situations and slower situations, with clear mind and calm, under stress. Such training is important even if later I become a fundamental investor. It also promotes overall health. :=) (2) want to be able to do both types of trades. It's much like martial arts, flexibility and smoothness is important.

Of course I will follow your great advice: learn things at a time! Thanks so much!

Could you please elaborate on this point:
" There is little chance that you will decide that buying options is the strategy that works for you" ?

 

[mizhael]

Quote from PiTrader_101:

I think NoDoji covered some good points. To get started, I'd say to trade call options only in the money with a delta of 70 or better...I've had the most luck with this. Since you're daytrading, just trade the front month contract...but make sure if you're losing money that the trade doesn't become an investment until expiration.

Start by trading one or two contracts on a liquid, volatile stock like AAPL, RIMM, or an ETF like SPY or QQQQ. This way you'll see a couple of important things. One, there's lots of movement in these stocks. You'll start to learn why the option is only up .70 when the stock is up 1.00. You'll also get to see how the option price starts to behave 3, 2, and one week before expiration. This is important as well. Finally, you can get in and out of these options without much slippage, which will save your butt in the beginning.

Finally, and I can't stress this enough. The brokerage world wants to sell everyone on their trading platforms, low low commissions and technical analysis thingamajigs. These are all important, but no brokerage will teach you to try and beat the spread on an option contract. Other than time decay on an out of the money option, spreads will put you out of business. They are the sneakiest, most destructive aspect of high volume options trading next to commissions. So, focus on trying to buy closer to the bid and sell closer to the ask. You won't always get a quick fill, but your odds improve dramatically.

Okay, so that's ATM or ITM options. Why 70% of delta? Ideally you would want 100% of delta, which is deeply ITM. But of course maybe that's too expensive, or too illiquid. Also since you mention slippage or spread, I can imagine this daytrading of options is only okay for small investor (someone like me), not someone with $1m... At that stage people may want to use strategy with more stable returns and less volatility.

 

[PiTrader_101]

I use in the money options for daytrading. Yes, ideally 100 delta would be the best, but you'll never get equal movement on options. I've found, and this is just my experience, that .70 is enough on volatile, liquid stocks to trade over a short term time frame. Anything higher than that gets less liquid and more expensive. Remember, you want some leverage.

Also, stick with liquid options. I like to see at least 10-20 thousand open interest in the option you're trading, and at least a couple thousand contracts trading per day.

To answer your question about larger accounts...yes, it can get tougher to be nimble depending on the size of the account. I used to work for an online broker during '99, though, and I did learn a lot by watching some very large clients' accounts and how they speculated. There are guys out there with 15 million accounts doing directional trades with thousands of contracts at a time. I used to execute some of the larger trades that would require principal approval, and seeing this order flow taught me that there are in face successful large retail clients...but, they are few and far between.

Buying long only options is a negative sum game with a negative expectation. Period, end of story. If you aren't sure what that means, you better learn about it now. HOWEVER, if the stock is active, the options are liquid, your executions are good, and your timing is reasonably good, and jupiter lines up with mars, you can occasionally beat the game.

 

[NoDoji]

Quote from mizhael:

Would you compare daytrading an option vs. the futures? For single stock, the Single Stock Futures are not liquid enough. But for indices, there are both futures and options. Looks like your strategy works for futures also. Would futures daytrading need even less cash outlay?

Could you please recommend some good books about day trading using your method or similar method? What's a good way to do risk management under this scenario?

Thanks!

Mizhael, I've never traded futures yet, but am considering doing so sometime this year, especially if I can find a mentor.

My favorite books are Josh Lukeman's Market Maker's Edge (the first few chapters on risk management are priceless if you have the discipline to follow through), Oliver Velez' Tools & Tactics for the Master Day Trader, also Velez' free webinars are very informative.

Your risk management depends on your individual circumstance, but a good start would be never to risk more than 2% of your trading account on a single trade. So for example, if you have a $25K account and you buy some call options for a total outlay of $2K, you would exit the position if it was down 25% (or sooner if the reason for putting on the trade breaks down). If you take the loss early, you can always re-evaluate for a better entry point, or move on to another opportunity. You will live to trade another day. (I'm still working on this aspect of my trading :eek:

 

[NoDoji]

Quote from PiTrader_101:

Buying long only options is a negative sum game with a negative expectation.

PiTrader, I occasionally consider trading AAPL options two directions in a given day. Haven't done it yet, but it's tempting because of the liquidity, tight spread and strong intraday movement and signals. Do you think it's better to buy and sell calls for long and short bias, or buy calls long and buy puts short? (Strictly day trading of course; I found out recently that selling naked calls and holding overnight ties up as much of my capital as trading the stock.)

 

[JohnGreen]

If you're looking for maximum leverage for day trading, and deltas very close to 100, then futures are what you want--index futures like ES (S&P500), NQ (Nasdaq-100), YM (the mini DOW), and TF (Russel 2000). Many futures firms offer things like day trading margins between 300-500 dollars which gives crazy big leverage and commensurate risks. For example, on the ES, a 10 point move is worth 500 per contract so a move up in your direction results in doubling your money in one day. An adverse move results in complete loss in the same time period. Also, for that kind of leverage, you cannot hold overnight.
Of course, if you are wiser and saner, you can put up much more margin per contract, and have stops in place from the moment you buy (or sell) the contracts. That keeps you from having your account blow up every third day!!
Mizhael, you are getting good advice from people who know what they are doing. Options are a bit tricky on a day trading basis. It can be done, but the odds are not in your favor. Only the most liquid stocks are suitable for this--and that means only about the top 15 of them. Bid-ask spreads should be less than 5 cents ATM, and you should try to split even that. You must also be able to watch them constantly, and trade in a few seconds or minutes if necessary. Remember that buying calls and puts makes you subject to time decay and volatility changes, so if it goes against you, admit you are wrong and jump out. You should aim to buy in the money calls or puts so that if the stock moves, you will capture the move. Someone said 70 deltas. That sounds about right to me. More than that means you are really deep in the money and they'll get to cost quite a bit on a dollar basis. They also tend to be less liquid the further into the money or out of the money you go. This makes it tougher to go in and out and capture your profits as efficiently as you might like.

 

[wilburbear]

Quote from PiTrader_101:

I use in the money options for daytrading. Yes, ideally 100 delta would be the best, but you'll never get equal movement on options. I've found, and this is just my experience, that .70 is enough on volatile, liquid stocks to trade over a short term time frame. Anything higher than that gets less liquid and more expensive. Remember, you want some leverage.

Also, stick with liquid options. I like to see at least 10-20 thousand open interest in the option you're trading, and at least a couple thousand contracts trading per day.

To answer your question about larger accounts...yes, it can get tougher to be nimble depending on the size of the account. I used to work for an online broker during '99, though, and I did learn a lot by watching some very large clients' accounts and how they speculated. There are guys out there with 15 million accounts doing directional trades with thousands of contracts at a time. I used to execute some of the larger trades that would require principal approval, and seeing this order flow taught me that there are in face successful large retail clients...but, they are few and far between.

Buying long only options is a negative sum game with a negative expectation. Period, end of story. If you aren't sure what that means, you better learn about it now. HOWEVER, if the stock is active, the options are liquid, your executions are good, and your timing is reasonably good, and jupiter lines up with mars, you can occasionally beat the game.

What kind of directional option trades were in those large accounts?

 

[dagnyt]

Quote from mizhael:

Could you please elaborate on this point:
" There is little chance that you will decide that buying options is the strategy that works for you" ?

If you trade options for awhile, you will become a premium seller, not a premium buyer.

Mark

 

[nasdaqmadness]

mizhael


Consider doing some paper trading with options for a while. I day trade options often but they are alot more affected by sentiment at any given moment than stocks. For example if you were watching a SPY atm call as compared to the SPY ETF you might see the call get bid up even though the stock has not even moved simply because of sentiment at that moment. It is common to have your options that you just bought 20 minutes ago go down in value even though the stock has moved in your favor. It takes a while to get a feel for when you are paying up for options. My favorite options are on the ETFs. SPY, DIA and IWM. I dont do much with Qs becauuse of the smaller daily range. If you have less than 25,000 in your account you will only be able to do 4 trades in a 5 day period. You can scale into several of the same options and if you sell them all at once that is considered 1 trade. If you buy and hold them until the following day the pattern day trading rule does not apply. If you have limited funds you might consider trading a currency pair like EUR/USD. you can scale in and out in smaller 25,000 amounts and have good leverage. IB has 40/1 you can trade 100,000 EUR for about 2500. There are so many insturments to choose from. I really believe that the best thing you can do when getting started with any new insturments is pick what you want to trade and watch it for quite a while and learn its personality. I mean months. Take your time. There is always another good trade ahead, account preservation is the goal.

Good Trading All