Gold in Them Thar Hills

From my research, experience and track record, I have found that the most powerful of all option strategies is to BUY CHEAP OPTIONS, especially puts. You have a statistical advantage in buying options due to the fact that stock prices move in a chaotic pattern, sometimes far beyond the range of the pricing model’s parameters.

Such surprise volatility makes options gems in the rough, or “gold in them thar hills”. Buying cheap options, you truly have a mathematical and statistical edge, something you are looking for as you play the game.

However, finding the gold is more difficult than most people think. Most cheap options are not good plays. They are overvalued with little chance of paying off. Therefore, it is important that you analyze an option before you buy it.

You must know your probability of making a profit, the theoretical value of the option, the delta and implied volatility.

The best way to find these plays is to use a SCAN program that identifies undervalued options. After I identify a list of undervalued options, I look at the charts of the underlying to make sure the underlying stock does not face a lot of overhead resistance for calls or underlying support for puts and also to see if the underlying security has made the necessary move in the past within the time frame allotted.

Then I look at a chart of the implied and historical volatility of the stock to make sure these volatilities are at a low ebb on the charts. Finally, I would do the probability analysis to ensure I am not betting on a dead horse.

Option buying should be part of every option investor’s arsenal.

It provides excellent insurance and explosive firing power for your portfolio.

The drawback here is that in practice, most investors do not fare well buying options. They do not have the patience, discipline and ability to handle a lot of losses.