The market is happy a few times a year. During those times, almost anything you buy is likely to make you money. Breakouts find an immediate follow through. Dips to rising 10, 20 and 50-day moving averages are getting bought. Tight range consolidations lead to breakouts. Those periods usually last three to four weeks and we have to make sure to take full advantage of them because, as swing traders, they will account for the majority of our annual profits.
If the market is happy only a few times a year, then our number-one priority as traders is to learn to recognise those times and to fully take advantage of them. And there is no better way to fully capitalise on a raging bull market than swing trading with options.
What’s so special about options?
The appeal of options is that they can sometimes deliver extraordinary returns out of ordinary moves in the underlying asset. A 5% weekly move in a stock might mean a 500% return in its weekly far-out-of-the-money options. A quick 1-2% daily move in a high-priced stock can lead to a 100% move in its at-the-money weekly option. No stock can offer that kind of return, but playing the market this way requires perfect timing and extreme focus.
Options provide market speculators with the ability to participate in trades with a much smaller allocation of capital. Not everyone can afford to spend $190,000 to buy 100 shares of AMZN so they can quickly sell them 20 points higher. Almost everyone can afford to spend $1,400 to buy one AMZN at-the-money weekly option.
Options give you many ways to establish a market position but most option strategies are too complicated for many people to follow. A plan is only as good as people’s ability to follow it. Sophistication is often the enemy of execution.
Options are by nature more complex than simply buying and selling stocks because they require traders to not only be right about the direction of a move, but also about its timing and magnitude.
“A plan is only as good as people’s ability to follow it. Sophistication is often the enemy of execution”
A simple rule of thumb for a strong uptrend in, for example, the small-cap index Russell 2000 (IWM) is when a stock is trading above its 10-day exponential moving average, which is above its 50-day moving average, which is above its 200-day moving average.
Trading options directionally doesn’t provide some incredible edge over trading stocks. On the contrary – one can easily make the argument that trading options requires a lot more precise timing because it comes with a lot of leverage and they often lack enough liquidity. Leverage is a double-edged sword: it can deliver incredible percentage returns when you are correct or lead to a substantial drawdown when you are wrong.
What options can provide is more accurate risk management and the ability to grow your account very quickly when the right circumstances present themselves. Using momentum to pick your stocks is a strategy; using options on those momentum stocks is a tactic.
A specialist swing trader and author, Ivanov is the founder of MarketWisdom.com. His latest book, Swing Trading with Options: How to Trade Big Trends for Big Profits is available on Amazon now.