Traders often claim that you can make money buying options and tracking the news at the same time. In today’s article, we shall discuss one parameter which can help retail traders, trade the impact of news, without having any knowledge of the news. We shall also back it with today’s live trade. The function is called Implied Volatility. The important question is why implied volatility? Simply because those who understand the role of implied volatility are champions in trading options.
The Importance Of IV Component
There are several factors that cause option premiums to change. Implied Volatility is the most important amongst them. If you look closely, you will notice, retail traders are mostly focussed on news or events while trading, they hardly ever look into the IV. So how can they change this? We all know that there are different factors that are responsible for the movement in options premium. Most of them are successfully computed by experts. However, Implied Volatility is a component, which can be computed only if we know where the market maker is standing between 9:15 am and 3:30 pm. For this reason, IV plays the most crucial role in determining the price of an option.
Trade Execution With IV
For ease of understanding, let us consider yesterday’s example. What we did was simple and can be replicated by retail clients also, once they have a grip on the IV factor. First, we checked the position of the market maker in the morning and found that they were preparing to buy Nifty. Then we checked the implied volatility of the option strikes the market maker was focusing on. We found that the IV of those strikes was reflecting unnatural change. This is where things got interesting; we evaluated the IV drift and found that the 24,300 Put in the weekly contract was a perfect match so, we sold 24,300 PE @ INR 4. It is important to note that the market maker was also building short positions in Nifty Puts at the same time. Surprising isn’t it? This is the beauty of understanding implied volatility. We squared off the position when the put was @ INR 8. This entire discsussion was done in our dealing room and executed in a way exactly innuciated by the team.
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