DIA UPDATE

CASH-FLOW ON STRAIGHT OPTIONS: PLAYING THE WHOLE MARKET

Please allow me to update you on a straight option trade. Options are risky, but the reward is comensurate with the risk.

Lately, I've been studying the option movement---almost intra-day---on the whole market, this time defined as the Dow Jones Industrial Average. It trades as an ETF (Exchange Traded Fund), which is actually a stock and trades like a stock, not a mutual fund. This ETF has $1 incremental strike prices. If the Dow is at 11,980, the ETF will be about $119.80 +/-.

Here's my observation: If the Dow futures are showing up 40 points, I've observed that the Dow will actually go up two to three times that amount. If it is showing down 80 points, as in -80, before the market opens, it will close down about 160 to 240 points. I've observed about 4 to 5 days in the last month when this has now panned out. It's not fool-proof, but it's a good indicator, and it's worthy of more study.

Here's my contention. If you play an option near-the-money (For example if the Dow is at 12,140, you play the $121 or the $122 calls), and you have a few weeks to expiration (this week is expiration, so we have to be careful), then the option will go up about .50 cents for each 100 point move in the Dow. If what I'm observing is true, this is a very important discovery.

Let's look at today for example. Before the market opened the Dow Futures were showing down 120. It was very erratic, bouncing all around, but when the market opened it was right about there. I projected the market would close down about 200 to 240 points. It was there much of the day, and finally closed down about 170 points. If one would have bought the puts (playing the down-side), and purchased the $120 strike price for $1.22 (They opened at $1.60), one could have sold them for $2.04. That's an intra-day trade of about an $800 profit. This is for a few hours. That's $1,220 to $2,040. Now, these are opening and closing prices. If you would have gotten out about 12:30 PM, you would have sold them for $2.30, or $2,300, not $2,040.

One point that is important to consider, and one I've made repeatedly, is to give the trade space to work. For example, if the Dow is showing up or down about 20 points, and the projection is a 40 point move, that may not be enough to even make .50 cents, on my 100 points=.50 cents in the option. See? And the last point, is the regular news. It seems that most of the good and bad news and all the commentary about the news, is already built into the expectation of the opening, or the Futures. The change however may come from news made during the day, and we have plenty of that. So, be careful, there is a lot of risk here. This is a great strategy to paper trade.