what role does volatility play in options trading?

Question

i constantly hear pete najarian refer to the vix when discussing options trading on cnbc fast money

Answer 1

Pete is talking about actually trading the volatility of the overall market when he refers to the vix. For options historical volatility has less meaning; implied volatility has more meaning. If you put on an options trade and the implied volatility is high(compared to past week/month) you are at a disadvantage in the amount of movement(return) you're likely to get vs if you got in when the implied volatility is low. If you've ever wondered why some options positions seem to move more vs stock's movement then others now you know.

Answer 2

For most successful options traders, volatility is the most important consideration in trading options.

You need to understand there are three different types of volatility to consider. When stock traders talk about volatility, they are usually talking about what option traders call "historical volatility" or "HV" also sometimes called "statistical volatility" or "SV" which measures how much the stock price has changed from day to day over a time period.

When options traders talk about volatility, they are usually talking about "implied volatility" or "IV" which is the amount of volatility the stock price will experience (before expiration of the option) based on the price of the option.

When an option trader chooses a strategy, he compares his "expectation of volatility" or "EV" with the IV for the options. If EV is much greater than IV, he would choose a different strategy than if EV is much less than IV. If EV is roughly equal to IV, he will probably not open a position with those options, although he may still trade the stock if he is bullish or bearish.

Volatility has nothing to do with volume. Some stocks with very high volatiliy have relatively low trading volumes.

Since I don't watch CNBC I cannot say exactly what Pete Najarian was talking about. He may be talking about trading futures or options on VIX itself. I know a lot of people call VIX the "fear index" since it goes up when people are more worried about their investments, so he might be discussing it in that context also.

If you are not familiar with VIX you can find out more than you want to know about it at

http://www.cboe.com/micro/vix/introduction.aspx.

Answer 3

What volatility does is adds to your options price, if it is a very volatile stock it will be more expensive than a slower moving stock. It's supply and demand. The Vega is how you measure the effect of volatility on your option. You can look at a option for Bidu or Google and see how expensive their options are, that is because of the volatility. Then look at a option for Intel and you will see the difference. Usually you will see time and intrinsic value on your options, but with the fast movers you will get a lot of volatility added in, it's how the market makers screw you on the cost, it should be regulated more.

Answer 4

As far as I can tell, volatility is your friend when it comes to options. The more volume that occurs with the stock, the better. If you think the stock is going to go up, then you would purchase calls, if it's going to sink you buy puts. I'm not truely sure how you are suppose to know what is going to happen to a particular stock, I guess you would just look at it's long term performance.

Answer 5

I bought put option for GOOG , with that I made $75K yesterday and thought that stock hit the bottom and has the potential for upside again. So I but Call Option for Decemer expiration and today I lost almost $100K. This simple example explains your question on volatility of option trading.

Answer 6

it can make the prices swing dramatically one way or the other. if a huge order of puts come in without a lot of call orders the market is going to go south. Volatility is another fancy way of saying "big volume". Hope this helps.

Answer 7

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