Option Indices Update – July 14

By Chris Ebert

Option Index Summary

Not much has changed since last week. The outcome of some option trades suggests that there is still a good amount of bullishness among traders, although other trades are signaling that there is very little strength behind their bullish conviction. Although these option indices are often helpful for traders hoping to better understand how emotions can affect future market moves, they do have limitations.

The indices were very clear in signaling the beginning and end of the Bull Market of 2012, and allowed readers to be alerted to protect their gains on April 4^th. They were also very clear in establishing the short-term bear market on June 1^st and subsequent improvement on June 29^th. Although rare, the option indices are not currently giving clear signals of anything. It seems the Summer Doldrums are continuing for now, but the doldrums have a history of ending quickly and violently.

Covered Call/Naked Put Index (CCNPI) – Mildly Bullish

At-the-money covered calls and naked puts continued to produce profits this week. The only exceptions were those opened 112 days ago, which ended up with a very small loss. Profitability of covered calls and naked puts generally indicates bullish sentiment among traders.

Long Call/Married Put Index (LCMPI) – Weak

At-the-money long calls and married puts have been struggling lately. Those opened 112 days prior to expiration have consistently failed to produce a profit each week since early May. Although the CCNPI suggests that there are still bulls out there, the LCMPI does not show any signs of bullish strength.

Long Straddle/Strangle Index (LSSI) – Normal

Long straddles and strangles have produced some noteworthy losses recently, mostly from early May to early July. Such losses can sometimes be an indication that traders were expecting a larger correction than what actually occurred. However, the LSSI returned to its ‘normal' range this week, suggesting more traders are willing to accept the recent correction as being complete, and fewer are expecting it to be part of a larger downward trend.

All Index values are calculated relative to the S&P 500 using volatility data to extrapolate the theoretical performance over the given time periods. It is not possible to match the exact performances shown because the strike prices and expiration dates available in actual trading will always differ from those used in the calculations.

The preceding is a post by Christopher Ebert, who uses his engineering background to mix and match options as a means of preserving portfolio wealth while outpacing inflation. He studies options daily, trades options almost exclusively, and enjoys sharing his experiences. He recently co-published the book “Show Me Your Options”.