How Academic Studies Can Offer Options Trading Ideas

Over the past two weeks, I’ve introduced myself to you as an options trader with a unique background.

You’ve learned that I believe options offer versatility. They can even be used from anything to generating consistent income, to trading the war drums beating along the Ukraine-Russia border.

But I didn’t know any of this when I started trading options years ago.

It was right after meeting Mike Carr. He had just left the military and was making the transition to civilian life. Though, he couldn’t help keeping one toe in the national defense pool by teaching a homeland security class at a Wyoming university.

He was trading the markets on the side, and showed me the power of options trading as a way of making a living.

At the time, I was enlisted in the U.S. army and had been deployed multiple times.

Ultimately, there came a point where I needed to decide if I wanted a military career, or a financial career which allowed me to spend more time with my children. I chose the latter.

That meant I had to dive deep into the options world and learn the various ways I could use them to make money and support myself and my family.

So today, I want to explain one thing I did different from most people when I started learning about options.

It’s something most don’t have the patience for, but I consider it fundamental to my success…

What Most Traders Won’t Do

I’ve spent years preparing to join True Options Masters, whether I knew it or not.

Prep work included trading options… but really, that was the easy part. The more difficult part was the time I devoted to research and study.

Research includes reading academic papers — an overlooked source of trading ideas.

They’re overlooked by most traders, in my opinion, because they don’t tell us specifically what to do. But they can hide great ideas in a sea of math and big words.

Here’s an example…

When I joined the team, I learned that Chad Shoop follows a sector rotation strategy — what he calls his Profit Radar, with Fast Lane Profits.

Funny enough, it was an academic paper about sector rotation that helped me see the value of options in the first place.

Dynamic Asset Allocation Using Systematic Sector Rotation is an older paper that a friend sent me years ago. He said it was a nice explanation of how trading with relatively simple rules could be profitable.

This paper applied a trading strategy to Fidelity Sector mutual funds. Before there were ETFs, these mutual funds were a popular choice for traders using rotation strategies.

I read the paper and saw that the rules were simple…

Buy signals came from a rate of change (ROC) indicator, the alpha of each fund, or a relative strength calculation. ROC was the simplest calculation and offered the best returns.

That was an eye-opening lesson to me. It was obvious that complex trading strategies weren’t necessarily the most useful.

Additional tests showed that owning three to five of the funds delivered exceptional returns. But what caught my attention was the fact that holding just one fund also delivered exceptional results.

However, almost all of the gains from the one-fund portfolio came in the first thirty days of the holding period. This is where I saw the opportunity to add options to the strategy.

Why Options Are Optimal for Short-Term Traders

As you know from reading True Options Masters, options work well as a short-term trading instrument because they have limited risk.

Short-term trading strategies can offer high returns, but there are risks. That’s unavoidable. There is risk in any strategy.

But with a long-term strategy, traders can ignore short-term losses since they have the luxury of time and losses could be reduced in the coming months. Short-term traders don’t have that luxury.

With a short-term strategy, unexpected news could send prices sharply lower. That could trigger a sell signal. Acting on the signal locks in the loss. Ignoring the signal undermines the strategy. Neither choice is comfortable to many traders.

Options can’t eliminate the risks. But they can limit it in precise terms.

When you buy options, like Chad does in Fast Lane Profits, you can never lose more than you pay to open the trade. Because options cost less than stocks, the risks are manageable in dollar terms.

In hindsight, this is all obvious. But 10 years ago, when I first read the sector rotation paper, I was excited by this insight.

Since then, I’ve read hundreds of academic studies. I’ll admit, most of them don’t have anything useful in them…

But every so often, something comes along that opens my eyes to the possibilities options offers. So I’ll continue searching for the best insights and continue sharing them with you here, along with my top timely trade ideas.

Regards,

Amber Hestla
Senior Analyst, True Options Masters

P.S. By the way, Chad’s Profit Radar is perhaps the best implementation of sector rotation I’ve ever seen in an options strategy.

The way it focuses on only the highest-potential trades, which themselves ride the momentum of the fastest-moving sectors, is nothing short of pure brilliance.

It’s no surprise to me how well it’s outperformed the market. Nor is it a surprise that Chad, just yesterday, closed out a trade for a 137% gain using it.

So if you missed out on your first chance to sign up for Fast Lane Profits, you shouldn’t ignore this one. Get the full details on Fast Lane Profits right here.

Chart of the Day:
Is the Bitcoin Bottom In?

(Click here to view larger image.)

So… this is a bit awkward.

Mike Carr has spent the last couple weeks telling you why the Relative Strength Index (RSI) is bunk, and you should really be using Relative Strength (RS).

And I agree with him. The RSI isn’t terribly useful on its own, as a signal to get in or out of trades.

But what it is good at is spotting divergences of momentum from price, which can signal short- and long-term tops and bottoms.

Take a look at the chart of bitcoin above. Several times this year, we’ve seen the BTC price and its daily RSI diverge from one another. Usually, such extreme deviations of momentum from price mean the tide is about to turn.

A triple-point divergence from February to May signaled a major top and the May crash. A major bullish divergence from May to July signaled a significant bottom.

Then once again, from August to September, price ran away from momentum and bitcoin fell. October saw a weak bullish divergence, with the price remaining flat as RSI rose, which still signaled a bottom. And then a divergence from October to November signaled the $69k top.

That brings us to today.

Bitcoin is putting on a very short-term bullish RSI divergence right now, with prices weakening as momentum builds. It seems that bitcoin just needs a catalyst, and today’s FOMC meeting could be just that.

I’m on the record saying that I don’t think the top is in, and the crypto bull market will extend well into 2022. What we’re looking at today is hardly evidence of that, but it does suggest that today’s prices could be the best we see in a while.

Regards,

Mike Merson
Managing Editor, True Options Masters