Increased market volatility doesn’t have to make you upset. If we are in a new cyclical bear market (and the odds are increasing each day) then you need to use a different framework when trading options.
Stock options give you the ability to make money in any market, but first you must understand what “kind” of market it is, so with the right kind of options training you can adapt to whatever gets thrown at you.
Bear markets behave much differently than neutral markets or bull markets. Aside from the volatility and swift downside action, many traders forget that the largest up days historically will come after a strong period of selling. There are some crucial concepts that you have to use if you are going to trade options in a bear market.
Embrace the Volatility
Gone are the days in which you could hold a large amount of overnight directional exposure. With voodoo coming out of Europe (and more out of China) the market suffers large overnight gaps as the result of any headlines that come out while you sleep. The key here is to make sure the positions you are holding are in the right size so if you do see a 3% gap down, you won’t be mentally fatigued.
From an options standpoint, this gives you the wonderful ability to trade out of the money options much more compared to a calmer market. Because implied volatility rises, the delta of out of the money options will rise– this is an option greek called vanna. You can often get more bang for your buck when trading directionally, and better odds if you are selling spreads.
What’s more, the “volatility of volatility” increases, because investors really have no idea how to price risk in this market.
You can capitalize on this by swiftly switching from being a net option seller to a net option buyer, and taking advantage of those pumped up deltas (vanna) when structuring your risk.This is an excerpt from an article entitled “Options Trading in a Bear Market: 5 Tips to Keep Your Money Safe” Read the entire article here
