If you can nail down timing and price, you have a winning trade on your hands. Here’s a look at how to do it.
Timing an option, stock, ETF, or some other asset class just right is usually attributed to good luck. Getting the price right when entering or exiting a trade is driven by luck and skill. The trick is getting both right.
Let’s look at both factors and how they come together for a high-probability trade.
Timing the market isn’t just luck
“Buy low, sell high” is a fundamental principle for investing and trading, but it’s more complicated than that.
Good timing combines your awareness of current market conditions and trends, a willingness to take a risk, and the time decay of an option.
When you read a chart, what are the indicators saying about the trend? Is it holding steady or could a reversal be coming? I use the MACD, moving averages, new highs/lows, and the bullish percent indicator here to help me get my timing right. For example, when I see a big dip during a bullish market, that’s my cue to buy.
I’m willing to take the risk, because I have follow a strict set of risk management guidelines. I only trade 1-3% of my portfolio on options at any given time.
As for time decay, I know the clock is ticking at all times. Therefore, I need the price action of the underlying stock/index to move fast enough in the right direction to overcome the decay factor.
The price is right – or is it?
Price is a lot simpler, because it is driven by the basic economic principle of supply and demand. A stock or option could be overvalued or undervalued, but that is to be determined by the person who buys it.
I rely on technical and sentiment indicators to give me confidence that I’m making the right move, whether I’m buying or selling.
Here are the questions I ask to determine if the trade is a good one (or not):
- Identify if there’s a strong daily trend on the price chart. Is there a breakout on price?
- Check out the volume. Is it strong or weak as the price makes a move?
- Look for followthrough on price. Are any distinctive chart patterns evident?
- Analyze the MACD. Has it made a crossover move?
- Look at relative strength. How is the stock performing versus the rest of the market?
- Consider money flow. Is there a positive flow as the stock moves higher?
- Analyze option activity. Is big money flowing towards option strikes?
- Assess the stock’s position. Is it overbought or oversold?
Notice that a lot of these questions are tied to timing.
How to coordinate timing and price
As an options trader, you want the underlying asset (like a stock) to move quickly so it overcomes the aforementioned time decay before the option expires.
When it comes to price action, it’s all about getting the strike price right. You can find a list of strike prices in an options chain sheet, which is available on trading platforms.
If indicators tell you the underlying will move quickly towards your desired strike price, bingo. That’s how experienced options traders find huge winners.
