V. 22:8 (22-26): Spotting Index tops And Bottoms by Leigh Stevens

V. 22:8 (22-26): Spotting Index tops And Bottoms by Leigh Stevens
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Spotting Index tops And Bottoms by Leigh Stevens

Use these techniques to buy index options ahead of market reversals.

There are two principal ways of trading stock indexes with leverage. One is using stock index futures, and the other is using stock index options such as the Standard & Poor’s 500 (SPX), the S&P 100 (OEX), and the Dow Jones index (DJX) options. The futures markets do not offer as much leverage as stock index options (nor do they offer the same hedging opportunities), but trading futures does remove the calculation of time premiums involved in buying calls and puts. Because premiums for index options get inflated quickly in a strongly trending and/or volatile market, astute market timing tends to be even more critical. You may be right on the trend in index options, but still not make any money if inflated premiums erode faster than the market moves.


In index futures like the S&P, I found that I could buy and sell (short) breakouts and make money. However, I would often lose on trades when I bought call or put options like the OEX after a breakout move occurred. To make a consistent and optimal profit, needed to anticipate the price and time frame when the market was making a significant top or bottom, and buy index options ahead of market reversals. In this way the premiums were reasonable, and I could more comfortably hold a position for some time when a move was especially strong.

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