House Of Pain

I’ve seen some folks quote that as high as 80% of options expire worthless. It’s nowhere near that level but when you are selling a program/system that focuses on selling option premium it sounds sexy to the buyer. After all, they’d have the odds stacked in their favor if they sold rather than buy options. Visions of owning that beach house in the Keys becomes that much closer to a reality. The truth though is that the average is more like 35% of options expire worthless so don’t break out the flip flops quite yet.

To further add to the mysteriousness of options there is a belief that pinning occurs where stock prices are manipulated to coincide with an option strike. The most basic idea behind pinning the underlying to a strike is that option sellers would tend to lose the least money. Does it really occur? That’s a debatable topic and one that has produced some academic research that’s worth a read if nothing else.

I like to look at the chains a lot and spend hours poring over the data therein. The issue I have with trying to make sense of the volume, open interest and other data is that I have no idea why the trade took place. Was that large purchase of September 1125 calls a hedge or a pure speculative play? Is it a bullish sign that a large block of October 1150 puts were sold at the bid or was it someone unwinding a position? There is simply no real way to know the intent and thus, speculation becomes a fine art while sifting through the data. I consider Joe over at Options Hawk as one of the better artists out there.

If you pull up the weekly option chains that expire tomorrow for the $SPY you can see open interest and daily volume along with other data. A cool, and free, program that can quickly figure out the max pain is Options Oracle and it shows that for the sellers they’d lose the least if SPY were to close around $118.50 tomorrow.  Whether or not that happens is yet to be seen as we have two full days of price action. The weekly options are PM settled meaning they will be calculated according to the closing price of the underlying come Friday’s bell. I believe there are too many unknowns out there for such a bold prediction to assume SPY will pin at any price. We are trading in an unprecedented time right now where all the historical tendencies, seasonality, technical levels and other data have given way to emotions.

Here’s a few other resources that may be helpful in better understand the idea of max pain/option pinning: [list type=square_list]

  • The Mystery of the Stock Price and the Strike Price [NYT]
  • Stock Price Pinning at Options Expiration? [CXO Advisory]
  • Apple closes at or near ‘Max Pain’ 8 weeks out of 10 [Fortune]
  • INDEX INTELLIGENCE: Maximum Pain Theory Revisited [Optionetics]

This Post Has 5 Comments

  1. MarkWolfinger

    Those who quote that ~ ‘80%’ number are either ignorant or intentionally not telling the truth. It is amazing how that number gets quoted so often. Thanks for trying to provide some realistic data.

    1. Attitrade

      Thanks, Mark. Amazing indeed. Sad more than anything though as I believe the majority are intentionally not telling the truth.

  2. the99th

    Of course, the 80% number sounds more meaningful if you think the only way to make money selling options is to never cover and wait through expiration. It didn’t take me long, mostly trading net-long premium even, to realize that holding out for what will happen some day in the future is the worst mistake a trader can make. To a newbie, it seems alluring to capture ALL the premium during expiration, but who cares about that when you can get the majority of it sooner, and you can also adjust the position by trading in other contracts to give it a different contour in regards to being long/short volatility, or long/short theta/gamma.

    It’s far too simple, and dangerous, to think that selling an option involves being paid up front and then you just wait. 

    1. Attitrade

      Simple indeed yet attractive to so many. I’ve seen the backs of hotel ballrooms fill with people willing to pay big bucks to learn the “trick.”

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