Trade Options when momentum is on strike: Shubham Agarwal!

Trend is always a friend. These last few weeks have been struggling to find that friend. The biggest reason for participating in the market is because of its momentum, which is sharp and bigger than other assets. When that is on hold, it seems like a time to take a break.

However, that could be a costly affair, as back in 2009 this break in momentum lasted for a good year and a half. So, taking a trading break could be very damaging to the capital that we have set aside for trading.

Instead, the best practice is to trade with the best possible resources today. Market data can help a lot here. If we look closely, we are likely to find the highest Options Open interest in OTM (Higher Call/ Lower Put) strikes within around 5% range (expected trading range) of the current index, almost equally divided.

Derivatives being a reactive science, just an attempt or two in surpassing those levels creates congestion, and the heaviest Call-Put helps us in defining the range.

No price for guessing the strategy when most of the options will have a firm and constant impact of reduction in premium due to the passage of time without movement. So, we just sell the options. By the very science behind the pricing of these options, we know such the time-impacted value in premium is maximum are in the strike price closest to the current market price.

We sell both Call and Put options of the strike closest to the current market price. In practice, though, I have always and would recommend always buying Protection. Buy OTM Options just outside the range or with the strikes of the range defined by the Highest Open Interest Call & Put.

Max Profit would be the net premium received, and Max Loss would be the difference between Buy strike & Sell Strike minus Net Premium received.

While we are trading within the range, there generally is a directional impulse, just that it is short-lived. That very fact kills the market momentum. So, to adapt to this first modification is to reduce the time horizon of the trades to weekly expiries.

While in absolute terms the index or the stocks may not be putting big gains or losses on the charts, there certainly is short-lived volatility. For stocks, it makes sense to trade this only during the day, no matter how promising the trade is. Avoid over-trading in Intra-Day, but at the same time, avoid too many carry forwards.

Lastly, when we are trading on the edges. Remember to have a mix of Buy and Sell. This has worked despite the fact that one of the trades is certainly going to make a loss. The reason is, while the breakout is expected to be fierce, the failures are also likely equally fierce in the opposite direction.

Thus, while in no momentum, unlike the secular directional move, it is advisable to have constant level-driven modifications in trades with respect to monetizing the lack of absolute move and the short-lived volatility.