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Kim

Can You Profit from Unusual Option Activity?

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in IB it appears someone spent about $1M on call options on AZO this morning.  Both the March 540C and the April 550C.  I noticed in these most recent earnings cycles that there was strong movements with FB, CMG, and GMCR on the day leading up to the announcement.  I think we could take some clues from this big money moving in and out. 

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Hey guys,

 

Can someone please explain how you can spot unusual activity such as the $1M spent on calls on AZO that jr1221 mentions above?  Did he just look at the volume on that day, or is there a phone app or website that reports this info?

 

Also, how does he know the contracts were bought instead of sold (or both in a calendar spread)?

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I too am interested in how to spot UOA (Unusual Options Activity), especially from brokerage software scans, as opposed to paid services. With Interactive Brokers (IB) market scanner, one can scan for Hot by Buy (or Sell) Imbalance, which could be useful data for directional trades. There are filters for Highest Volume and Highest Open Interest, and if you rule out those underlyings that always have highest vol and OI (Aapl, Goog, etc), the lesser known stocks that make those scan could be interesting trade candidates (with the caveat of being careful of lower option volume iunderlyings).

 

As to how you would know if its an opening or closing trade, I do not know.

 

btw, I guy named Andrew Keene, who was a floor trader, bases his entire trading strategy around UOA. His belief is that the institutional order flow should be mimicked, and that a huge buy/sell at a certain strike indicates non-public knowledge, and a tradeable edge.

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I too am interested in how to spot UOA (Unusual Options Activity), especially from brokerage software scans, as opposed to paid services. With Interactive Brokers (IB) market scanner, one can scan for Hot by Buy (or Sell) Imbalance, which could be useful data for directional trades. There are filters for Highest Volume and Highest Open Interest, and if you rule out those underlyings that always have highest vol and OI (Aapl, Goog, etc), the lesser known stocks that make those scan could be interesting trade candidates (with the caveat of being careful of lower option volume iunderlyings).

 

As to how you would know if its an opening or closing trade, I do not know.

 

btw, I guy named Andrew Keene, who was a floor trader, bases his entire trading strategy around UOA. His belief is that the institutional order flow should be mimicked, and that a huge buy/sell at a certain strike indicates non-public knowledge, and a tradeable edge.

There have been studies done on this and sites devoted to it.  You can look for yourself, but trading around at least now on unusual activity is generally not a strong trading strategy.

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Until tonight you can get a 30 day money back guarantee on a paid service :

unusualactivity.net/win

I always like to try out these services. I don't think it is a good way to trade, but with other considerations, it can be useful information along with regular trading actions. I always put a tickler on my calendar to cancel at then end of the period. If it hasn't paid for itself and more, I get rid of it. I asked if they had a filter, but they currently don't, but are developing it. Having such information might alert you to get out of a calendar early if someone bought a huge number of shares, calls or puts.

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I wonder if anyone has published performance with those strategies, or perhaps do the opposite of those strategies and compare the performance.

I assume most unusual activity consists of buying out of the money calls or puts.  These are typically low probability strategies, so it's be good to compare the following:

If the unusual trade was buying an out of the money call:

Compare the performance of buying that call to selling that call and also to selling a similar delta put.

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I looked into this a long time ago (over 5 years), and got no where with it.  MOST of the "unusual" options activity you see pop up from time to time is hedging activities by large funds and/or institutions -- not by individuals or even funds having inside information or taking large directional based bets.  These often do not coincide with stock purchases as they may be merely locking in gains.

 

Simple example:

 

Fund A bought 5m shares of MMM in January 2013 at $95.00.  January 2015 it hits $165.  You could have bought the two year put leap at $110.00 then for under $1.00 - or higher at higher strikes, thereby locking in guaranteed gains. 

 

Or Fund B has a maximum draw down of X% allowed on a particular position before closing it as a trading rule.  So when it opens a position that it has long term beliefs on, but may be highly volatile in the short term, it buys the puts 10% down. 

 

You wouldn't want to trade based on that unusual option activity -- at all.  In either case you would actually be betting AGAINST what the institution did.  One of the case studies I did followed a sap who learned that two VPs of a large company were buying huge quantities of put options after watching UOA and reading disclosure reports.  The first thought anyone has is "holy crap the company's officers are betting against their own company" and made a trade against that.

 

Whereas in reality, these two VPs were about to have a ton of their employee options vest -- at an acquisition price MUCH lower than the current trading price (perfectly normal in employment agreements), and wanted to hedge their soon to be stock position at the high price. 

 

The truth is unless you know who made the UOA, why it occurs, and the holdings of the entity/person making it, you simply are just guessing.

 

The ONLY exception I've ever seen to this is in a few pre-announcement trades -- typically that occur within 5 minutes or so pre-closing.  I have done no studying on this, but have at least ten examples I've personally noted on trades I watched -- on earnings announcement day, all of a sudden, five minutes or so before the market close, you see a huge option purchase of slightly out of the money calls or puts -- and then an adverse/unexpectedly positive earnings announcement -- that always proves to be right.

 

However, even then, while the directional move has always proved correct, it has not always led to the "trader" (e.g. inside trader) making money due to volatility collapse.  Even if you know there's going to be a bad earnings surprise -- do you also know how much the market will move in response to that?  If volatility is quite high leading into earnings, even knowing a move is coming might not result in profits. 

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I just spent months researching and following UOA. Pete Najarian is on CNBC and always touting this style of strategy.. I did follow Andre Keene.

There are  different feeds for real time UOA activity.. Google and you will find a few firms analyzing the real time option order flow  and sending out the data condensed and sending out  large orders. And they are usually willing to sell you the feed. "Feeds for sale" are different than "feed plus strategy and advise". There are a few of these services as well..

There is lots to be learned about option order flow, pricing, market makers etc.  from following this strategy.

Companies selling the data along with strategy and advise have usually been CBOE (or similar) traders with years of experience and trying to impart their knowledge and experience to others.

cwelsh makes good point. The fundamental model is built on the fact that following institutions and riding the wave of their strategy is easy to predict and follow. Put some rules sets rigor and logic behind all of this and trades should flourish (until they don't).

Understanding fund managers use of options is a lot different than reading a funds prospectus. Hedge funds don't have to file their prospectus or strategy.

If someone knows the general use of options by fund managers please post. :)

Having said this it was fun to watch in real time (admits the clutter of daily volume vs. open interest) a trade of 200 contracts move upward .30 with the buy and sell  on the same day.

 

 

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I'm still waiting for someone to present consistently profitable track record using UOA.

Najarian brothers were running a subscription based service OptionMonster, which was based on UOA. They offered few levels of subscriptions ranging from $200 to $500. No track record was being published, but when I insisted to get it, they sent me few sets of raw data. After plugging the trades int Excel, it turned out that they were losing money year after year.

The service is closed now in case you wondered.

It is very easy to come on CNBC and throw 5-10 trade ideas every day - sure some of them will make money. 

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I have recently started doing some research online about UOA and landed on this forum post. It does seem that if you integrate it into an existing strategy and use the UOA alerts strictly as signals it can work under certain situations.

Curious if anyone else has tried this new unusual activity options scanner. They have a free delayed version which I have been using for pre-market scans and considering trying it out in real-time mode.

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