Total bullshit headline, right? You may have seen something like this in the news:
Seems reasonable, right? There’s usually a 52/48 chance a stock is going up or down in any given period. So you’d expect at LEAST 50% of the time they’d be right, which is about the same odds as a monkey throwing a dart. Let’s dig into the actual, tradable numbers.
At first they cite the “ISE Cybersecurity Index” (HXR) which as of this writing, looks like this:
Seems pretty high, does that mean it can’t go higher? Nope. The market can stay irrational longer than you can stay solvent.. as i’ve been told. You’ll notice, there’s a lot of air underneath that chart.. while there’s maybe a few percentage points to the upside, there’s a whole lot “more risk to the downside” as we like to say. In #TastyTrade speak, we call that “pot odds”.
After 10 flips of a coin, you get a string of 10 heads, are you going to bet on another head? Where are your odds? The more heads you see, the more right you have to be. If you want better odds, you intuitively start betting tails. If you’re doubling down each time, you only have to be right, once. In the stock market though, we do the opposite, we tend to bet on more heads!
In the options world, we don’t bet on heads or tails, we bet on expected move, kind of like a bookie does. We assume since everyone knows how the whole Russia thing played out last time, that it’s efficiently priced into the Market. Everyone’s watching the same movie, and since you can trade both sides of these markets, the news is all but baked in. Since $HXR doesn’t seem to have an option chain we’ll use my favorite ETF to trade when i’m trying to tease out the incredible bullshit I see in cybersecurity news, $HACK.
So the charts look similar, but with $HACK we get an added bonus:
It’s like a magic 8-ball, that lets us see how the actual market makers are pricing in WHAT IS ALREADY KNOWN and more importantly, the price of what isn’t quite yet known. It tells us, that even though some magic bank has some magic insight, the actual TRADABLE numbers are what they are. You can believe Goldman and buy the sector, or fade Goldman and sell it. The choice is yours and right now the bookies are suggesting two things based on all the information that’s being priced in.
First, there is little fear in the market. $HACK has an implied volatility of ~16% and a 52 week IV Rank of 25.8. That means, it’s current implied volatility (the amount of juice in an option when there’s fear in the market) is relatively low compared to where it’s been over the last year. It means the market isn’t really pricing in any big price swings in the short term future relative to what it has in the past.
Second, there’s an 84% that $HACK will have a $3.37 move between now and Dec. Period. That means, this sector ETF could move PLUS or MINUS 8% in the next 159 days. Translation: There’s an 84% $HACK will be trading $41 OR $34 by mid Dec. Why is this important? Because it’s context, and in risk management, context is everything. Without context, you’re just pissing in the wind like a Goldman analyst on a 50/50 bet. You’re not using tradable numbers to make a decision, you’re just guessing, and with guessing you’re likely to be right 50% of the time (or as TastyTrade studies have show, worse).
The people that make all the money in this game know two things, the numbers are what they are, and don’t have an opinion. Over time, a coin-flip will yield 50% heads and 50% tails and over the longer period of time, any tradable instrument will stay within it’s expected range. Right now, where you can trade it is +-$3.37, meaning to the positive side AND the negative side.
Could that range expand should something odd happen in the future? Sure. You’re also assuming the guys and gals who make millions of trades per day aren’t already taking this into account with their pricing models. What do you know, they don’t? What’s the take away? While everyone else is betting only in one direction, you can do something like this:
Since you’re selling both sides of the number (eg: betting it stays within a range), you have a 68% chance of collecting $62 and keeping all of it. Regardless if the stock goes up or down. As long as it expires between those two, you keep what you sold. You also have an 88% of keeping 50% of it (eg: $31), meaning if you manage your winner early, you have less risk and higher probability of profit.
If you can’t spot the sucker in the room.. it’s probably you. If some analyst is trying to sell you something, assume the smart money already priced that in. With options, you can simply be a contrarian and take the other side. Better yet, be the casino and just assume over time, everything, and I MEAN EVERYTHING trades within it’s expected range. You don’t need some graduate level analyst [who’s never traded] to tell you that. Just trust the math.