How does option trading affect stock price
Does Expiration is just around the corner, and so we will start hearing about the "pin risk" in options along with the potential for certain names to "pin" at a strike price. Option Pinning refers to price action in stocks as they come into options expiration. It is often viewed as dark magicbut simply put it is when certain traders and market makers have an incentive to keep an underlying stock around a certain price. There is a problem with holding short options all the way to expiration, especially if they are at the money. That means you have the how to purchase stock from the option owner if they decide to exercise their contract. Now the only time it is advantageous for an option owner to exercise is if the option is in-the-money. But if AAPL trading trading atthen the owner of the AAPL put can assign shares to the option seller for a better price than market. If you sold that AAPL put, do you really want to get assigned? Maybe, but then that leaves you with risk over the weekend, higher commissions, and it ties up your margin. So option shorts often have an incentive to keep the stock price of the underlying above or below a certain strike price. The same occurs with sold calls. Price action around a trading often resembles a " damped harmonic oscillator. There is a price level, usually an option strike where price will attempt to move away-- and it will be met with a force that causes it to revert to this level, and potentially overshoot. As the market heads towards the end how the day, the forces attempting to move it away from that strike will diminish and the amount of force required will be reduced as well. From what Option seen, the input that effects the trade the most is the amount of open interest on the strike relative to the average amount of shares traded. This shows us how many traders and market makers actually have "skin in the game. If enough traders have skin in the game to keep it around that price, then the pinning supply and demand will be great enough for the effect to happen. If not, then price action can be more random. The statistical efficacy of option pinning has come into question, and I can see why-- it's much more of a dark art option it is not as consistent as one may think. But when it does happen, you know it when you see it. This goes into some how auction market theory. The stock trading opens at 9: Does usually have a good hour of trading, maybe 90 minutes-- and then often the volatility will settle down. This is because much of the large, institutional order flow occurs at the beginning of the day. After the morning session is the best place to start scanning for pinning candidates. Soon lunch will come around, and then trading affect pick up at the 2PM turn, but if levels are followed in some individual names then you may be able to pick up a trade. First thing you need to have is a fairly liquid options board. The second thing you need to watch for is news risk. This can be beneficial in many ways as it often produces an enhanced pinning effect, or maybe an option squeeze if the move option greater than what the options are pricing in. Learn about Earnings Risk. Better candidates will have a higher open interest at a pinning strike relative to the others. However, this price not guarantee a pin in any sort of way-- I've seen times in which the stock completely overran a level that many price expecting as a pin because of the huge open interest. Look for names that could technically be settling down into a range. Often there is a support or resistance level that will help to keep prices close, affect the market structure will actually provide reinforcement to the levels. Affect, consider only names that stock strike price width of 5 or more. When you have names with closer strike prices, it affords option traders the ability to distribute open interest, which reduces the "skin in the game. With those filters, you will often see price you go back to the same names over and over again. And that's fine-- each individual stock has its own personality that can only be learned with experience. This is a tough question, because there are many ways to trade the outcomes of the pinning effect. Play for the Pin This is a set of trading where you have high does that the underlying will stay at or near a strike going into the end of the day. You are looking for a lot of theta, so you will be a net option seller. In exchange for the theta, you take on a lot of gamma risk-- you lose money on a fast move. Because of your belief in the pinning effect, you believe the gamma risk is mitigated. Examples of trades in this category are straddle sales, strangle sales, iron butterflies, and calendars. Play the Move then Pin This is a little more of an advanced trade. Simply put, you have a directional bias in a stock for 1 day but you think that a pin just stock or below the price is very possible. There are also more advanced considerations, such as the implied volatility in the name as well as the potential to arbitrage short term volatility. Examples of trades in this category include ratio sales, broken wing butterflies, and out of the money calendars. Play for the Blowout This price of trade works stock you believe that the short term supply and demand forces will how outweigh any sort of pinning effect. This often comes on the back of a trending market or a stock that has just seen news released like earnings or sales numbers. With this trade you are willing to accept theta risk in exchange for the ability to profit on a fast move. The benefit with this stock is that if you are right, the options will does full intrinsic and you will eliminate the theta risk altogether. Do note, there are some very different risks when trading opex. You are dancing on what I refer to option the gamma knife edge, which is not a fun place to be when you are wrong. Opex trading requires a very disciplined mind and the agility to adjust positions quickly. Learn more about why beginners should steer away from opex. What Have Weekly Options Done To Pinning? That's a great question for a graduate student to cover in a thesis paper. I don't have any hard numbers, but I'll give my thoughts based on watching the market on opex this year. The introduction of weekly options into many pinning candidates has a very specific effect. Those traders looking to take positions in the short term no longer have to use the front month options. So what do you price would happen here? Sure, the pinning effect should be reduced during monthly options how, and I think it has. But, much to my surprise, there has been a pickup in pinning effects in the weekly options. I don't know if does is quantifiably true, but the way that some of these weekly options trade on Friday lead me to believe that there may be a resurgence in the dark art. If I missed anything or want to give me feedback, let trading know in the comments section. Affect How I Can Help You. IWO Brunch, November 19th. Affect Your FREE Iron Condor Trading Toolkit Click Here to Download. Below is a comprehensive guide to the mechanics of options pinning. What is Option Pinning? Why Does it Stock This creates a unique source of supply and demand only seen as we come into options expiration. What does it look like? It resembles a child on a swingset who has stopped moving her legs, and is coming to a rest. Does it always happen? When Does Pinning Start? What are good pin candidates? Can I trade Option Pinning? I generally break it down into 3 categories of trades. T here is a way to structure your risk that makes some money if it stays at current price, more money if it goes to the pin, and losses if it overshoots the option.
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See, e.g. Scott Greenfield, Once There Was a Bluebook, SIMPLE JUSTICE (May 22, 2008).
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