Newbie Question: How to execute option trades

I

InTheZone

Hi All,

I've got a newbie question for you:

How do you execute trades in options (either buying or writing the option)?

I'm interested in trading vertical spreads, but I'm finding the bid-ask spread to be prohibitively wide.

I've found that trying to become the best bid or offer oftentimes results in a leap frogging game with the options market maker, who from what I understand is trying to keep the liquidity on his/her exchange.

Any comments you may have would be appreciated.

Thanks.

-- ITZ
 
I just trade reasonably liquid stocks and options. Look at sites which show options with large open interests. In addition, I have learned to wait until the spread closes in. Also, I try to use tape reading/sp to leg into teh spreads sometimes doing better than fair value.
It aint easy.Good luck
 
"I've got a newbie question for you:

How do you execute trades in options (either buying or writing the option)?

I'm interested in trading vertical spreads, but I'm finding the bid-ask spread to be prohibitively wide."

if you have to ask these questions you dont know enough to be playing options at all.
 
Originally posted by vhehn
"I've got a newbie question for you:

How do you execute trades in options (either buying or writing the option)?

I'm interested in trading vertical spreads, but I'm finding the bid-ask spread to be prohibitively wide."

if you have to ask these questions you dont know enough to be playing options at all.
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I tend to agree. Options are a lot harder than they look.

As for the question, you have hit on a big problem with options. They are not liquid and the MM would rather drink poison than give up the edge. You have to have an execution platform that lets you see the depth on both sides at the various exchanges and lets you direct your order. Personally, I do most of my trades through ISE and try to get the edge if I have the time. If not, decide what you can tolerate and if it's too big, pass. Gat's point about legging in is also a good idea. You will probably have to do the long side first, as most brokers don't want you to be naked short. You can also put in the spread order as a spread and specify a limit debit or credit you want. Some online brokers have this capability and all old style options brokers do.
 
One way is to leg into the spread. This can be tough when the options series aren't liquid. Another way would be to use a scanner to search for the cheapest or most expensive spread available. The third is to learn how to price options so that you give up edge but your not getting ripped off. Many MMs will cut the market on a vertical because there is often a lot of edge even in tight spreads.
 
Hi Trajan,

Yes, I do know now what a box is, after looking it up in my Natenberg book: a combination of two vertical spreads, where the combined prices of the vertical spreads must add up to the value of the box.

The book talks about how if you know two of the three prices, you can estimate the fair market price of the remaining price. I guess this assumes that the two prices you do know are fair market prices as well.

I look forward to hearing your thoughts on how I can use the "box" concept.

-- ITZ
 
Sorry it took so long. You have the basic idea. They are popular with MMs in the pits because they are locks. In other words, they typically don't blow up in your face except under specific circumstances that rarely occur. So unless they have one of these things on during a partial tender offer, the potential losses one could have are quite small and have to do with interest rates or early exercises.

Depending on the way you want to look at, a box could be made up of a variety of different combinations of options. For this discussion, I'll put one together using two vertical spreads. A long call spread is the equal in risk to the short put spread and short call spread is equal to the long put spread.

long 50/55 call spread = short 50/55 put spread
short 50/55 call spread = long 50/55 call sprad.

A box is

long 50/55 call spread + long 50/55 put spread = long 50/55 box

short 50/55 call spread + short 50/55 put = short 50/55 box

It is getting late; that is the actual time at which I am writing this. I had actually responded before but had left to finish later, however my browser was closed losing everything written. I'll finish.
 
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