Purely Mechanical Option Trading

[dipper17]

You’re making my case for me that the real time price of the option and yesterday’s last trade has no relationship. Therefore your claim that you can time the market based on the open, close and rage of the previous days in that option can not exist.

There is nothing special about buying a call when the market is down and then selling it when the market has rallied a bit. The price of that option in the previous day is meaningless so is the close of the index in the previous day since today that option is priced on where the index is at that moment in time.

The OEX options and all other options for that matter are all priced fairly. In fact the markets are so efficient and price the options so precisely these days it’s squeezed the huge majority of market makers out of the pits. There is no edge for them anymore. If options were priced incorrectly or unfairly why wouldn’t the rest of the world step in and hammer those options back to where they are priced fairly?

If at anytime an option was priced incorrectly the world would hammer it back in line immediately since then it’s an easy arbitrage.

 

[jeffalvinson]

Having nothing to do with the title of this thread, but still worth mentioning:

The VIX is breaking down from its long term 200 day moving average.
This could mean a market that has fewer sharp negative consecutive declines.
It can also mean a change in the intermediate term trend.

The breakdown is good for the bulls and not so good for the bears.

It can also effect the fill rate of discounted option trade entries.


Take a peak at the attached VIX chart.


Side Note:
A falling VIX can also effect the fill rate of discounted option trade entries with my system, as it already has this month during its decline. I may (or may not) have to adjust program parameters slightly for lower average VIX. (So far in 2008, not a single program parameter has been changed.)

 

[dipper17]

The VIX index is a lagging indicator since the price of the VIX index is derived from the implied volatility in the SPX options.

Now you’re saying you have a VIX component in your programs?


You might want to define the term “discount” in the context of the way you’re using it. Since you cant in reality buy options at a discount to the current market.

 

[jeffalvinson]

Quote from dipper17:

You’re making my case for me that the real time price of the option and yesterday’s last trade has no relationship. Therefore your claim that you can time the market based on the open, close and rage of the previous days in that option can not exist.

There is nothing special about buying a call when the market is down and then selling it when the market has rallied a bit. The price of that option in the previous day is meaningless so is the close of the index in the previous day since today that option is priced on where the index is at that moment in time.

The OEX options and all other options for that matter are all priced fairly. In fact the markets are so efficient and price the options so precisely these days it’s squeezed the huge majority of market makers out of the pits. There is no edge for them anymore. If options were priced incorrectly or unfairly why wouldn’t the rest of the world step in and hammer those options back to where they are priced fairly?

If at anytime an option was priced incorrectly the world would hammer it back in line immediately since then it’s an easy arbitrage.

Your fair value comments with OEX options sounds like a Doctor
defending another Doctor who committed malpractice.
You are definitely a market maker (or former MM).
OEX options are (as my former MM friend phrases it)
"a royal screw job" when the VIX average is above 15 and "slightly less of a royal screw job" when the VIX average is under 15.
Plain and simple.

The edge my system gives me is "short term trend direction" or "change of direction."
For example:
On Monday evening my system was basically saying,
"don't buy anymore puts, the put trend is reversing."
Looking at the market performance since that system advice on monday night, the Dow is up +233 points from its Monday closing bell to present time (12,311 to 12,544).
I would say that was pretty damn good advice from the system
wouldn't you?

 

[atticus]

Quote from jeffalvinson:

On Monday evening my system was basically saying, "don't buy anymore puts, the put trend is reversing."

Don't buy puts should be construed as a buy signal? Comical. wtf is a "put trend"?

 

[dipper17]

I am not defending anyone or any product. OEX options are plain and simple not a screw job in the way they’re priced. In fact they’re priced for the most part just like any other option. Since the OEX is a single listed product only on the CBOE he bid offer spread is a bit wider then many other multi listed products but the options themselves are priced fairly. Fair value is not an opinion it’s a fact. If the OEX options were priced incorrectly the rest of the world would step in and hammer the prices of the options back to fair value. Fair value being a price which anyone can calculate with basic options pricing software, there is no mystery.

So are you saying that your system knew INTC’s earnings would be good and cause this tech rally today? According to you the advice your “system” gives is based on the prices of SPY options from all the previous days. Today’s rally is on the back of that INTC report and the tenuous CPI report. Care to explain how that was priced into your system?

 

[jeffalvinson]

Quote from dipper17:

The VIX index is a lagging indicator since the price of the VIX index is derived from the implied volatility in the SPX options.

Now you’re saying you have a VIX component in your programs?


You might want to define the term “discount” in the context of the way you’re using it. Since you cant in reality buy options at a discount to the current market.

I know that VIX lags, but charts give potential future direction.


I can manually adjust for changing average VIX.
That in turn will change the percentage of discount below the previous closing price for the trade entry prices.

This "discount" word in the context that I am using it:
I simply mean buying under the closing price by a certain percentage, based on system signal strength and type.
Is that better?
(Note: A rare signal type in the system actually pays full retail (previous closing price).

 

[dipper17]

So let me recap here. Until today you had not mentioned that the VIX was a component of your system. Until today the systems exact prices for entry and exit were predicated on the open, close, and range of particular options, not of the index. Also the open, close and range of those options prices going back 20 years.

How can you make manual adjustments in a system that’s totally mechanical?

For the record once more: There is NO closing price from the day before in an option contract. The last trade of the day may occur long before the market closes. The last bid and offer of the day can be a long way away from the last trade of the day. Buying an option below the last trade from the previous day creates no true “discount” or premium to the actual value of those options or current market. Nor does the last trade of the previous day have any effect on the way the entire world prices fair value for those options today.

 

[jeffalvinson]

Quote from atticus:

Don't buy puts should be construed as a buy signal? Comical. wtf is a "put trend"?

Atticus,

Your right, don't buy puts should have outputted =buy calls
from the system programs, but it didn't because it didn't see any call trend with SPY option data inputted.

When I inputted OEX option data, there was a call signal to trade OEX call options. However, I haven't traded OEX options since last year and this thread has been about SPY option trades.

A put trend is basically derived from a series of mathematical algorithms and formulas that are programmed to look at trends (up,down, none) in option data.

 

[jeffalvinson]

Quote from dipper17:

[A] If the OEX options were priced incorrectly the rest of the world would step in and hammer the prices of the options back to fair value.

So are you saying that your system knew INTC’s earnings would be good and cause this tech rally today? According to you the advice your “system” gives is based on the prices of SPY options from all the previous days. Today’s rally is on the back of that INTC report and the tenuous CPI report. Care to explain how that was priced into your system?

[A] In a real sense the market has walked in and hammered the OEX options back into the stone age. How?
By choosing not to trade them, with a few exceptions.
Look at the volume on OEX options and then go look at the volume on SPY options.
I would have to say that the majority of traders have metaphorically hammered the OEX by chosing other indexes or etf's.

No, the system can't read or predict the news.
It looked at the put trend (or lack of) and basically said:
"the put trend is falling apart like a dollar watch (reversing), don't trade frickin' puts."
That's all it said.

Unfortunately, the SPY option data didn't have a call trend to
output as a trade.
However (as I mentioned to Atticus) when I inputted OEX data into the system, it did spit out a call trade on Monday evening,
but this thread has been a discussion about SPY options.

Since you believe in the fair value of the OEX options, do you want me to also input OEX data and P.M. you the trades?