How do I know if a stock is going to make a bullish move higher?
The reality is that you really don't know if a stock is going to make a move in any direction and most often your assumptions will play out 50/50 at best long-term. You can use technical analysis to help improve your chances of making a correct decision on the ultimate move of a stock and as a general rule, we would always prefer to see the stock with oversold readings than to go long something at its peak. Still, once you realize and believe that you have absolutely no real directional edge as a “stock picker” you’ll feel a weight lifted off your shoulders and be able to focus more closely on learning how to trade non-directional with options.
What is the difference between a bull put credit spread and a bull call debit spread?
Both strategies are used when you want to trade a stock directionally higher or bullish. A bull put credit spread is an option selling strategy whereby you sell one OTM option on the put side and at the same time buy another OTM put option below that first option’s strike price. This leaves you with an overall credit and room for the stock to fall between its current price and your short strike price while still being able to turn a profit. A bull call debit spread is typically used when option pricing and volatility is really low. With this strategy you would buy one ITM call option and sell one OTM call option above the first option’s strike price and try to make a directional bet that the stock will continue to move higher. This strategy requires a net debit to get into the trade and ultimately leaves very little room for error in its break-even points.
If your bullish and implied volatility is low what are the best options strategies?
Although we typically don’t prefer to be that active trading when implied volatility is low, if you do feel that a stock is going to make a bullish move and want to take advantage of it the two best strategies to trade are either call debit spreads or call calendars. Both strategies profit from a move higher in the stock and from a move higher in implied volatility.
How do I select strike prices on a bull call debit spread?
Debit spreads are low probability trades where we are taking a directional bet on the underlying stock. Therefore our strike selection with the debit spreads needs to be more conducive to getting a favorable break-even point and fair risk reward pricing. First, start by purchasing one ITM call option and one OTM call option. Then see if you have a break-even point that is very close or favorable compared to the underlying stock’s current trading price. Ideally we are looking for a 50/50 risk to reward ratio and a break-even point just slightly below where the stock is trading.
If your bullish and implied volatility is high what are the best options strategies?
With high implied volatility and a bullish underlying bias for the market, the best options strategies to trade include short credit put spreads and short naked puts. Both strategies profit from a move higher in the underlying stock and a drop in implied volatility. In this instance you would not want to trade anything where you are net buying options as you would be overpaying for the options based on their historically overstated volatility compared to the expected move.
How do I select strike prices on a bull put credit spread?
With credit spreads you are taking a slightly more directional approach to your trading strategy assuming that the market will move higher overall but might also pull back or trade lower slightly between now and expiration. Credit put spreads are great because they give you a margin for error to allow the stock to fall and still make a profit. In order to find out what strike prices you need to trade you first need to figure out what probability of success you want to target. Most credit spread trades that we make here at Option Alpha are targeted at the 70% chance of success level and therefore we place the short strike at the 30% probability of being ITM or roughly the .30 delta level. If you are more conservative with your trading account and want a higher probability of success, such as 85%, then you would want to start selling the short strikes that are further OTM (maybe at the .15 delta level or lower).
How do I select strike prices on a call calendar spread?
With a call calendar spread you’re going to be trading call options in the front and back month for whatever stock you were looking at. In our case we usually like to go out a couple strikes from where the stock is trading right now. For example, if a stock is trading at $50 per share, we would typically like to center the call calendar spread around $52 or $53 if possible. Going too far out with a call calendar spread does reduce the cost but it also reduces the overall profit potential. We are not opposed to paying a little bit of money for a call calendar spread that is closer to the actual stock price to get a higher probability of success. Finally, you should always check to make sure that both strike prices are available in the next expiration period and that there is sufficient liquidity in both contract months.
Which options do I buy and sell for a call calendar spread?
A call calendar spread is going to use the front and back month options on the call side of the option pricing chain. In this case, you will be selling the front month options and buying the back month or later dated options. For example, if it is currently February, and we want to do a February/March call calendar spread we would sell the February calls and then buy the March calls in the later contract month.
Should I ever just purchase long OTM call options if I think stocks will rally or go higher?
No. Unfortunately, it’s a long-term losing strategy so if you choose to play the options lottery with single long options, good luck. You might win a couple of times here and there but as a consistent, conservative, income-producing strategy for long-term wealth, it’s a loser.