The way to get rich by options trading is to make a market in them, to aim to be as neutral as possible on your greeks and to take bid/ask spread, and to do this with extremely high-quality real-time risk analytics systems, first-line trading oversight and second-line risk management oversight. In other words, it's to be an equity volatility trading desk.
Don't forget their massive investments in technology to be the first for those pennies (high-frequency shops, custom machines colocated at exchanges, etc).
There are also specialist market maker roles for specific products, which don't have to use these systems, but those are professionals in niche markets too illiquid for the big shops.
As of 2008, options market makers are not allowed to naked short. [0] The only remaining exemptions to restrictions on naked short selling are for equity market makers. These market makers are still subject to delivery requirements (T+2). Plus, most/all aim to end each day flat
I've heard this strategy referred to as "picking up pennies in front of a steamroller" - it works until the CEO is discovered to be a fraud, goes to jail, and stock loses 80% of its value in a week. Then you lose everything on a single position.
Market makers do this as a free way to cover delta risk in that direction. If you have +100 delta, selling 100 "units" (way out of the money options) is a nice way and doesn't carry any other greeks.
I've seen speculators do this, but they're playing with fire. I've seen an investor risk 9 digits to pick up $50k a minute before strike expiration, not realizing that the actual settlement is the next day (so adversarial events can still happen).
... generally that refers to the strategy of writing (far) OTM options.
Like: the Dow is currently trading at about $49.44; and the bid/ask on a Nov 18th put with a strike of $40.00 last traded at $0.04. So you can write 25,000 of those and get $1,000 in premium. Those are the pennies.
You can't lose any money unless the Dow actually below $40.00 because those options will expire worthless. However, if the Dow goes to $39.00 ... then you'll be on the hook for $25,000. That's the steamroller.
I am not a fan of Taleb these days (he went off the deep end in conspiracy land), but it's worth reading his "Black Swan" book.
These tail risks are impossible to predict, and volatility of volatility of these events is incredibly high. So your expected value is better to think of as a "very broad range with a positive mean" - are you comfortable with this?
It's advice for a retail trader on what they are up against, and it confuses me greatly on how retail traders can look at all of the evidence that they shouldn't, and they still do.
It's a misunderstanding to think that retail traders are "up against" the trading desks of the big market makers: that implies that they're playing the same game, which is not the case.
The goal of a market maker is to trade as much as possible, on either side of the book, with the widest possible spread that remains competitive, while keeping within risk limits.
Most retail option strategies are based on beliefs about the behaviors of the underlying. Like, I think this stock is going to go up, so I'm going to trade a strategy that makes money when that happens (probably with some leverage, and hopefully with some downside protection).
They're not thinking about smile and calibrating stochastic volatility models and looking at their cross gamma and trading OTC exotics to lay-off their risk.
One strategy depends on discipline, scale, operational excellence, deep quantitative analysis and risk management. The other depends on clairvoyance.
Is there any data that suggests retail options traders should not even attempt to be clairvoyant because "if this, then that" logic to the underlying instruments price and its movement is too naive to be successful, or
does a lot of the "technical analysis" (support/resistance, moving average crossover, volume/volume weighted average price, etc.) become a self-fulfilling prophecy?
there are other members that make up the market + its daily volume other than market makers. i agree, it isn't (or at least shouldn't be seen as) market makers vs retail traders. market makers don't care about direction from what i understand.
it's the high frequency trading hedge funds/funds running algorithms against institutional "whale" investors versus... i'm not even sure i can pretend to understand all of the participants that trade shares (or options) daily/weekly/monthly/quarterly.
there's a portion of psychology manipulation to it as well, right? "oh my gosh, this is going up but it might be a bull trap" aka... some people believe there are entities/an entity behind the scenes driving the price up to "suck people in", and vice versa (bear trap).
>Is there any data that suggests retail options traders should not even attempt to be clairvoyant
The market makers and other participants are not playing the same game, but they are playing in the same market; and that is ultimately zero-sum. If the market makers are making money on your transaction costs, and they're profitable (which they are) then there's already some signal there, surely?
I find that my perspective is generally recalibrated each time I observe a professional or professional organization in a field where I think I mostly understand how it works.
It takes seeing how some of the second-order effects matter in order to get an inkling of just how much you don't know.
As an approximate programming example, imagine the difference in productivity between a programmer coming out of high school and someone with a couple decades experience with access to version-control, profilers, documentation, a clear understanding of best-practices, who works on a team of five people who will all do the same job, and has access to $1M in AWS credits.
Can the young programmer compete? In principle. Can they deliver on time, every time, for their clients without making a gaffe like the team of programmers can? Probably not.
Some small percentage probably can and it is easy to fool yourself that you are doing better than you are (especially prior to 2022 when most things with retail interest just went up for over a decade).
Exchanges are legally obligated to provide the best possible buy/sell quotes to people, so this is not gonna work.
For illustration purposes, imagine you own shares of a ticker that trades around $150/share, with a bid-ask gap of $1. So the lowest sell order is sitting at $150.50, and the highest buy order is sitting at $149.50.
Now, imagine you queue in your way out limit sell order at $200, and then some unsophisticated trader submits their limit buy order at $201. Your limit sell won't trigger, until the entire queue of sell orders sorted by increasing prices (starting at $150.50) gets filled first. If that unsophisticated trader wanted just one share, they will get that one share at $150.50.
The whole idea of a limit buy order at $201 is that it will execute at the cheapest available price, as long as it is below $201. Similarly with limit sell orders, your $200 limit sell will execute only at the edge of bid-ask gap price, as long as the cheapest available ask is at $200 and meets the bid at that number. Until that moment, for every buyer, the queue will be processing all the cheaper ask prices first, until it chews through all of them (which would pump the stock enough to reach your limit sell price).
The width of your spread should be inversely proportional to your certainty about the price level.
If you are an unsophisticated maker, you have to quote wider, and yes you will probably get hit very very rarely. But occasionally someone comes through and just needs to unload something as quick as possible, and they will put in a market order to basically take the whole one side of the book and trade down to your level.
Obviously not super profitable, but not losing either! If I knew an easy way to make markets as a retail trader and be wildly successful, I wouldn't blab about it ;)
That is one way/the best way to make money options trading.
Is there any wiggle room in that statement for the alternative? If retail options traders come out ahead winning overall 15% of the time... is that worth pouring time into? It becomes a personal decision on whether you should risk your resources/time given those odds.
The question I have is... why do some people win and some people lose? It can't just be luck.
For every option and share bought, there is someone who sold it on the other end. Doesn't require much insider trading, given that for every trade that went poorly on one side, it went well for the person on the other side of it. Whether it went poorly on the sell or buy side, it doesn't matter.
Given this, you can see why there are just actual purely statistical reasons for tons of trades going well with zero insider trading needed for that. Half of them are bound to do well. Whether you can consistently stay on the "good side" of your trades is a separate story, though.
P.S. Not trying to deny that insider trading exists, but its prevalency tends to be extremely overblown.
