Presentation on theme: "How to Take Money From the Market Maker Presented by Andrew Keene."— Presentation transcript:
1 How to Take Money From the Market Maker Presented by Andrew Keene
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3 Andrew Keene - Floor Trader @ CBOE 10+ Years -Regular Contributor to CNBC & Bloomberg -Taught thousands of students how to become full time traders -Turned $50,000 into millions of dollars
4 Trade Like a Market Maker -This is the BEST time ever to trade Options: Markets are Tighter, Penny Wide, and More Liquid that Ever -There are 8700 stocks and 4200 stocks with options. -Of the 4200 stocks with options, there are over 320 stocks with listed weekly options Gives traders 52 expirations to trade instead of 12
5 Trade Like a Market Maker What is a Market Maker? A market maker is someone who is always quoting a bid-ask spread for a given option contract. The market maker is willing to take either side of the trade and is hoping to profit from the spread between the bid and offer. Example: AAPL is trading at $590.00 The market maker makes a market for the Dec 650 calls at 25-25.30 20 up. This means that at this given time the market maker is willing to buy 20 contracts at $25 and/or sell 20 contracts at $25.30.
6 Trade Like a Market Maker We will discuss: Who Controls Order flow Use Put-Call Ratio to Determine Investor Sentiment Use the Market Makers Target for Iron Condors Learn Best Time of Day and Week to Trade Credit and Debit Spreads Learn when and why to Trade a Credit or Debit Spread Learn how to Potentially Profit 600% in Options Using Market Maker Targets
7 Trade Like a Market Maker Understanding Who Controls Order Flow: Does the market maker control order flow? Absolutely not! Institutional traders and investors are the ones who really control all of the order flow in the options market. But who are these traders?
8 Institutional Paper Mutual Funds, Pension Funds, Sovereign Wealth Funds The “whales” are the ones really in control of order flow
9 Institutional Paper Hedge Funds The more aggressive fish also control order flow. These orders come from hedge funds and big traders.
10 Trade Like a Market Maker Understanding Who Controls Order Flow: Why are these the people in control? -They have MORE capital -They have MORE access to information -They have BETTER technology -They can take on MORE risk These are the traders we want to follow. These are the traders the market maker watches.
11 Using the Put-Call Ratio to Determine Investor Sentiment: A look at option traders overall sentiment
12 Using the Put-Call Ratio to Determine Investor Sentiment The Put-Call Ratio = Number of Puts Traded/Number of Calls Traded What exactly is the put-call ratio and what does it tell us? Before we get into that lets talk about why people trade options.
13 Using the Put-Call Ratio to Determine Investor Sentiment Trader Buys Calls: Is it a Hedge or Speculation? Trader Sells Calls: Protection against long stock position or speculation to establish short position. Trader Buys Puts: Protection against long stock position or speculation to downside? Trader Sells Put: Protection against stock stock position or speculation to upside?
14 Using the Put-Call Ratio to Determine Investor Sentiment Paper Buys Calls : 60% - 40% Bullish / Bearish Paper Sells Calls : 50% - 50% Bullish / Bearish Paper Buys Puts : 65% - 35% Bullish / Bearish *Paper Sells Puts : 80% - 20% Bullish / Bearish
15 Using the Put-Call Ratio to Determine Investor Sentiment So why is the put/call ration important to us? They talk about it all the time on CNBC and other options shows all the time. Why?
16 Using the Put-Call Ratio to Determine Investor Sentiment Put/call ratio can be a determinant of investor sentiment. Lets take a look at an example in Chesapeake Energy Corp (CHK): A trader BOUGHT 33000 CHK Oct14 35.0 Calls $0.49 This is a HUGE trade that requires this trader to lay out more than $1.3 million in capital. Remember what we said about call buying. So how can we determine if this is actually a bullish trade?
17 Using the Put-Call Ratio to Determine Investor Sentiment Let’s look at the put/call ratio of CHK on that day. Put/Call: 11k/171k = 0.06 We can determine a few things by looking at this number: -Calls MASSIVELY out traded puts on this day -There is clear demand for calls in CHK -Options traders are expecting UPSIDE in CHK While this shows us the action in a single day we can dive even further into these numbers.
18 Using the Put-Call Ratio to Determine Investor Sentiment Where is the open interest sitting? This can tell us how successful paper has been in the past. Total open interest put/call ratio: Put/Call: 155k/267k = 0.58 What does this tell us? -Clear trend for CALL BUYERS -We have seen this so many times in: VLO, TSO, CHK, MPC, and APC. -If these Calls are bought then it tells us the Institutions want to be LONG
19 See all of the open interest on the call side? Notice how thin OI is on the Put side Take note as well that the OI is in ATM and OTM Options
20 Using the Market Makers Targets for Iron Condors and Iron Butterflies: Using Smarter Targets For Income Strategies
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22 Using the Market Makers Targets for Iron Condors and Iron Butterflies Market Makers Targets: Traders can use the price of the at the money straddle to calculate how much market makers think the stock can move by expiration. This can be easily calculated using the price of the at the money straddle. Traders can use this to calculate implied closes for that expiration.
23 Using the Market Makers Targets for Iron Condors and Iron Butterflies The Goldman Sachs Group, Inc (GS) was reporting earnings on 4/17/2014 Before the market open. I thought that the stock wouldn’t move much so I wanted to set up a short premium position. But how do I pick my targets? I use the market makers targets to look for strikes I want to center my trade around. Let’s break it down on the next slide
24 Using the Market Makers Targets for Iron Condors and Iron Butterflies The GS Apr ATM 157.5 Straddle was trading at $3.70. This tells me that the stock can move up or down by $3.70 BY EXPIRATION. Using this straddle price we will calculate our upside and downside targets: Upside Target = $157.50 + $3.70 = $161.20 Downside Target = $157.50 - $3.70 = $153.80 I now have an implied range that I can use to set up a trade
25 Using the Market Makers Targets for Iron Condors and Iron Butterflies Using the Measured Move Targets to Set Up an Iron Butterfly: My Trade: The GS Apr 155-157.5-160 Iron Butterfly for $2.00 Credit Risk: $50 per 1 lot Reward: $200 per 1 lot Breakeven: $155.50 and $159.50 This trade has a GREAT reward/risk set up and has a wide range of profitability. Let’s see how it played out…
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28 Using the Market Makers Targets for Iron Condors and Iron Butterflies The SPY is currently trading around $186.50 I will look at the weekly 186.50 straddle to get targets. The Weekly 186.50 Straddle is trading at $2.70 Upside target = $189.20 Downside Target = $183.80 Now let’s look at a trade set up…
29 Using the Market Makers Targets for Iron Condors and Iron Butterflies Trade: The SPY Weekly 183-184-189-190 Iron Condor for a $0.35 Reward: $35 per 1 lot Risk: $65 per 1 lot Breakeven: $183.65 and $189.35 This trade makes money if the SPY closes anywhere between $183.65 and $189.35 on expiration. This trade also sets up well on a risk vs. reward basis
30 When Is the Best Time to Trade Credit vs. Debit Spreads?: Capturing the Most Premium and Avoiding Time Decay
31 When Is the Best Time to Trade Credit vs. Debit Spreads? Market makers know the best time of the day and week to trade credit spreads and debit spreads. On Thursday morning I will begin selling out some of my long premium positions Thursday afternoon is when market makers begin “rolling their date forward” What does this mean?
32 When Is the Best Time to Trade Credit vs. Debit Spreads? Thursday afternoon is when premium really starts to come out of options but when do I want to be putting on debit spreads? I know that I want to be buying debit spreads on Tuesday afternoon This is the best time of the week for me to put on long premium positions Why?
33 Why Trade a Credit Spread vs. a Debit Spread?: Know Which Stocks Work Best For Credit vs. Debit Spreads
34 Why Trade a Credit Spread vs. a Debit Spread? Changes in a stocks trend and price action can change our considerations when looking to trade credit or debit spreads. Some things to think about: -Is the stock in a range? -Is the stock a trending stock? -Is the stock breaking any key levels? Lets look at some chart examples….
35 When inside this range we want to be trading credit spreads As stock breaks key level here implied volatility explodes. Now we are looking for debit spreads
36 This type of trend is very strong. We want to be trading debit spreads on charts like this.
37 When AAPL was in the range highlighted we are looking to be short premium Earnings Breakout: CAN’T BE SHORT PREMIUM ANYMORE
38 Using the Market Makers Targets to Potentially Make 600% Profits: Us Smarter Targets to Set Up Low Risk High Reward Strategies
39 Using the Market Makers Targets to Potentially Make 600% Profits We talked about how we can use the market makers targets to find levels for Iron Butterflies and Iron Condors. We can also use these targets for more speculative trades. We will look at how to use them to set up low risk high reward strategies called Call and Put Butterflies. We trade these strategies ahead of earnings announcements or other catalyst events.
40 Using the Market Makers Targets to Potentially Make 600% Profits Earnings Trade in SWKS: SWKS is reporting earnings on 4/22/2014 After the bell: -Stock was trading around $37.00 -The Apr 25 th 37 Straddle was trading around $4.00 -The chart was looking very bullish -We calculate an upside target of $41.00
41 Using the Market Makers Targets to Potentially Make 600% Profits My Trade: I bought 15 SWKS Apr 25 th Weekly 39-41-43 Call Butterflies for $0.38 Risk: $38 per 1 lot Reward: $162 per 1 lot Breakeven: $39.38 and $42.62 This trade has a better than 5-1 reward to risk set up but it is typical to see setups with a 6-1 or better setup.
42 Shares of SWKS gap higher right to the measured move target
43 Using the Market Makers Targets to Potentially Make 600% Profits On Friday I was able to sell my SWKS Call Flys for $1.60 or 500% Profits. These are huge profits and the reason this trade worked out so well is because I had great targets calculated using the straddle. This is how market makers develop targets and it works better than anything else out there.
44 Summary Institutional traders are the ones who control the market. These institutions are hedge funds, mutual funds, pension funds and big banks. Traders can spot trends in the put/call ratio to determine what the overall sentiment of the options market is on a given stock Market makers targets are far more accurate than price targets developed using fib levels or other technical analysis methods. Traders can use these targets to trade Iron Condors and Iron Butterflies around catalyst events or for income strategies. Thursday morning is the best time to sell premium before market makers “roll their date forward” We only want to trade credit spreads in trading range stocks, if they breakout we become debit spread traders. We want to trade debit spreads in trending stocks
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