What are options - and why add them to your portfolio? As part of a
back-to-basics series on options, TradeKing’s Brian Overby answers an
investor’s question on options block trades and what they might mean. Welcome to November, traders! I just received an excellent question about a key piece of options data, the larger-lot “block” trades of options that sometimes signal bigger players staking a move that piques investors’ interests. Inside TradeKing’s Trader Network Pauly B asked the following:
“I see there are paid services you can subscribe to that alert a trader for getting information about who is selling and who is buying at certain option strikes on equities.
How do they get this information while the retail trader can’t?
Also do the exchanges monitor the order flow on option strikes for massive buying or selling of options?
I saw in the recent New York case with the hedge fund manager that the NYSE has a person watching all the order flow and then comparing it to the news on that equity. In that case it was on Hilton Hotels and the NYSE reported it to the SEC. How do the option exchanges handle this on option strikes?”
Hello Pauly B: Nice to hear from you again.
There are software providers who’ve developed products that search for large-lot option trades from raw options trading data. As an individual investor, you already have access to this information in the options chains, but finding it can be a slog. You’d have to sort through all the chains on all the stocks one by one and look for large volume trades, then investigate if the trade occurred on the ask price or on the bid price and if it was part of a spread or other multi-leg trade to determine (in their opinion) if it was a bullish or bearish sentiment trade.
Most of these companies don't guarantee their information is correct; it’s really just a best guess as to what is happening in the marketplace. Basically they’re selling the information obtained from their scans, using the same type of data source that is used to fill the option chains at TradeKing, but they’ve already scanned all the data and cleaned it up, looking for specific parameters. So retail traders have access to the data, but not to the software needed to scan – at least not for free. It is available from many venders for a fee.
A service you might want to check out is Whatstrading.com; their options analyst Fred Ruffy blogs for TradeKing as an All-Star commentator.
A word to the wise: this data can be misleading because you don’t know the positions in the account that these trades came from. Some of the trades that show up might just be hedging a very large stock position by buying a lot of put options. This would imply that the institution or investor is still bullish but wanted to protect a gain in the account. In other words, what you may take as a bearish signal – a big block of puts – may in fact mean just the opposite, a bull hedging a profit.
Another caveat about options block data: who knows if the institution or investor will be correct? Just because they traded a lot of contracts doesn’t necessarily mean they are great at picking stocks. Their forecast may well be wrong.
Now as far as a market maker is concerned and the exchanges are concerned, for both stocks and options this is the main advantage they have on the floor: They are the first to see the trades if they happen in the pit they’re standing in. If you assume the large-lot traders are the “smart money”, well, that’s a big assumption. Bottom line is, when these trades come to the pit someone has to take the other side of the trade. Most of the time it’ll be a market maker. The order gets presented to the crowd, and the market maker does her or his job and makes a market. So they’re usually the first to receive this information and can choose to act on it or not. They are the first to know about it, but as soon as the trade occurs it gets posted and the information is available to the entire world. Once the trade occurs in the pit, it is considered public information – not insider.
The takeaway is that there’s no scam to “get” the retail traders. It is not insider trading to see a large trade occur and then follow the trade or do the opposite of the trade. All the trade data is public information; it’s just how you find it.
These software companies are providing a service for a fee, and that service consists of a different way to look at this data. Think of it this way: if a house is getting foreclosed on, maybe you would’ve bought it for cheap, but did not find out about it until someone else already closed the sale. That’s unfortunate, but it doesn’t mean there was a conspiracy to keep you out of the trade. If just means you did not look hard enough to get lucky enough to see the deal. You might hire a realtor that specializes in this area to help you look.
Catch up on my “Options Back to Basics” series
So far in this beginner’s blog series we’ve defined options, both calls and puts, explained what sports and movie contracts have in common with investment options, and showed how an option contract’s terms are spelled out in its name. We’ve also examined the basic parts of an options chain, including glossing key concepts like delta, open interest and implied volatility.
After that I unpacked open interest as an important measure of an option’s liquidity and delta as the “Greek” that tracks the relationship between price movements in the option and the underlying stock.
Regards,
Brian Overby
TradeKing's Options Guy
www.tradeking.com
[image: Mailboxes by dvs on Flickr]
Options involve risk and are not suitable for all investors. Please read Characteristics and Risks of Standardized Options available at http://www.tradeking.com/ODD.
Any strategies discussed or securities mentioned, are strictly for illustrative and educational purposes only and are not to be construed as an endorsement, recommendation, or solicitation to buy or sell securities.
Supporting documentation for any claims made in this post will be supplied upon request. Send a private message to All-Stars using the link below the profile image.
While Delta represents the consensus of the marketplace as to the theoretical price movement of the option relative to the underlying security there is no guarantee that this forecast will be correct.
TradeKing provides self-directed investors with discount brokerage services, and does not make recommendations or offer investment, financial, legal or tax advice.
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