A High Level Guide to Trading Unusual Options Activity

by qwertyrayz

Hey all, I’ve received a good number of requests to post a guide on how exactly one trades high volume unusual options activity. I’ll keep this fairly high-level, and I encourage those who are inspired by this post to do more research on the subject. My goal is to give you guys a guideline one where to begin your studies, but I’m not here to teach you guys outright on how to trade Unusual Options Activity.

What is Unusual Option Activity?

Unusual options activity occurs when a certain contract on a specific series experiences unusually high volume. Generally volumes above one to two thousand on smaller cap stocks or in the tens of thousands for larger more liquid equities.

What is UOA good for?

UOA is primarily used to see institutional option order flow in order to piggyback off their plays. Institutions are smart, richer, and have far more resources than your average retail investor, so piggybacking off of their plays will usually net you a profit 9/10 times. Insider trading is a lot more common than you think, and sometimes you can see institutional order flow to predict big stock moves before they occur.

UOA is NOT useful for ETF’s such as SPY, QQQ, or USO. I don’t care how smart an institution is, no institution can predict the market. Even Bridgewater Associates, the largest hedge fund in the world headed by Ray Dalio, experienced massive losses during the current COVID-Crash. SPY is not going to hostilly takeover Apple. USO will not be bought out by Netflix. IWM is not going to have a shitty press release and tank after earnings. Stop burning your cash through trying to predict ETFs

How to Scan for UOA

There are many services that can scan for UOA, but you guys all have google and I’m not going to shill products. Personally I use ToS’s built in scanner. If you’re interested, there are many videos on the art of scanning for UOA.

One thing of note, websites like BarChart are good for a general picture, but never trade based on options activity found on BarChart alone. It does not show individual order flow and you have no way to tell if they were selling, buying, opening or closing positions. Plus they update super slowly so you’ll miss out on trades anyways.

Things to Look Out For

Analyzing UOA is more of an art than a science. It really requires an understanding of different types of option spreads, MM behavior, option pricing, and fundamental analysis. It by no means is an easy way to make money and it is very difficult to differentiate hedges and bets. UOA is NOT the holy grail of trading, or else other people would have already jumped in on it. That being said, with proper risk management and a well developed set of financial skills, it can be a great supplement to an existing trading strategy. With that out of the way, here are general things to look out for.

  • Volume to Open Interest
    • Understanding the Dynamics of volume and open interest is a great way to determine whether orders are opening or closing.
  • Bid/Ask Spread
    • Bid/Ask Spread analysis will help you determine how aggressive orders were and whether or not order flow was buying or selling.
  • Days till Expiry
    • This is the best method to differentiate between hedges and bets, but it is not an exact science and is sometimes very subjective until the trade runs its course.
  • Implied Volatility
    • Sets expectations of Institutions
  • Charting
    • Option orders leave footprints in the form of MM orders. Learn these.
  • Option Spreads and Strategies
    • You MUST have a deep understanding of every option strategy. These are critical to determine direction of bets.

And that’s about it. UOA is a difficult strategy to master, but once you know what you’re doing it can be a consistent and profitable strategy.

 

 

Disclaimer: This information is only for educational purposes. Do not make any investment decisions based on the information in this article. Do you own due diligence.

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