When trading, whether with options, futures, or stocks, you should try to have an edge. What do we mean by “edge”? Your reasoning behind a trade shouldn’t be completely systematic or just ‘going with the market’. If the market is trending up, simply buying a call to follow the trend could work out for you and your trade could be profitable. However, the market could turn and the trade could just as easily go against you. For example, instead of buying a call option on the Nifty just before an RBI announcement, you could examine past market moves following RBI announcements. If you believe that this upcoming announcement will be similar to some in the past, you could place the trade based on those historical insights.
An interesting point about the option market is that you can look at the price of a straddle – an ATM call and an ATM put – and it will tell you the estimate of the upcoming price move. For example, if a stock is trading at 1000 and the cost of an ATM call is 10 and the cost of an ATM put is 15, the price of the straddle is 25. This means that the market is implying a price move of +/- 25 or 2.5% (25/1000).
Let’s look at a practical example. TCS has options that expire in 21 days and between now and expiration, this company will announce earnings. When TCS announces their earnings for the most recent quarter, they will share financial results, business highlights, and forward-looking expectations that could impact the stock price. Here are TCS’s stock returns for comparable periods surrounding the last 40 quarters of earnings announcements. The interior shaded section is highlighting the option implied price move for TCS.
This is an example of “edge”. Not many traders will take the time to dive into the data to understand the risk-reward associated with this particular trade. By having this data, you would be informed of historical expectations which will allow you to determine if you should buy a straddle or go short a straddle.
Having an edge is critical to helping a trader achieve long run trading success. A simple way to get started with finding “edge” is by using the Upstox Option Smart Lists and Upstox Trends in the Pro version of the app.
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