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Is Implied Volatility A Good Predictor of Actual Volatility? (09:02)

By Lawrence G. McMillan

This article was originally published in The Option Strategist Newsletter Volume 9, No. 2 on January 27, 2000. 

The question posed in the title above is one that should probably be asked more often than it is. Somehow, it has become something of a consensus in the option trading community that implied and historical (actual) volatility will converge. That’s not really true – at least not in the short term. Moreover, even if they do converge, which one was right to begin with – implied or historical? That is, did implied volatility move to get more in line with actual movements of the underlying, or did the stock’s movement speed up or slow down to get in line with implied volatility? In this article, we’ll look at some examples of what really happens with respect to implied and historical volatility, and we’ll try to draw some conclusions regarding this comparison.

THE BASICS: Review and Explanation of Concepts: Volatility (03:22)

By Lawrence G. McMillan

This article was originally published in The Option Strategist Newsletter Volume 3, No. 22 on November 17, 1994. 

Volatility

Volatility is merely the term that we use to describe how fast a stock, future, or index changes in price. When we speak of volatility in connection with options, there are two types of volatility that are important: historical volatility, which is a number that can be calculated mathematically by seeing how fast the stock has been changing in price over the past 10 days, 20 days, or any other time period that we want to examine. The other type of volatility that is important for option traders is implied volatility. Implied volatility is what the options are "saying" about future volatility: if it is high, then the options are predicting that the underlying instrument is going to become more volatile in the (near) future; if it is low, then the options are predicting that the volatility of the underlying will decrease. Thus there may be a difference between the historical and implied volatility. If the difference is large enough, then one can use options strategies to create a position with an "edge" — the "edge" being the differential between these two types of volatility.

August, The Volatility Month (03:14)

By Lawrence G. McMillan

This article was originally published in The Option Strategist Newsletter Volume 3, No. 14 on July 28, 1994. 

We often write about volatility since it is the variable which most directly determines the price of an option. Oh, sure, the other variables are important — stock price, strike price, and time to expiration — but those are determinant things since we always know their value at any given time. However, volatility is the big question mark, the one variable that dances to its own beat, that can make or break a strategy even if the stock or futures price behaves as one expected.

Synthetic Stock Variations (22:17)

By Lawrence G. McMillan

This article was originally published in The Option Strategist Newsletter Volume 22, No. 17 on September 16, 2013. 

In our last issue, the feature article discussed whether it might sometimes be preferable to trade the underlying stock as opposed to buying an at- or slightly in-the-money option. This week’s article is a follow-up to that discussion: we are going to look at various option strategies that are, in effect, almost like owning the underlying stock. The potential advantage of these option strategies is that they behave much like stock so time decay is not a major drag on the position. Moreover, leverage is available through these strategies (not as much leverage as one would have in an option, but decent leverage nonetheless). Leverage is neither good nor bad, but for those who want it, this is a way to achieve it without subjecting a position to onerous time decay.

Volatility Trading Strategies (05:12)

By Lawrence G. McMillan

This article was originally published in The Option Strategist Newsletter Volume 5, No. 12 on June 27, 1996. 

We regularly have a column entitled "Volatility Trading". In this article, we want to look at the strategies that are applicable when one finds implied volatility is substantially out of line with where it "usually" is. As you will see, there is often more than one way to approach the situation, depending on which strategy you choose. You might choose to limit risk, but not at the expense of lowering your prospective profits unnecessarily; on the other hand, you want·to be prudent about your risk-taking.

When Is Trading Stock Superior To Buying Options? (22:16)

By Lawrence G. McMillan

This article was originally published in The Option Strategist Newsletter Volume 22, No. 16 on August 23, 2013.

The common perception among option traders is that option buying is the “best” approach to a speculative situation because of the great leverage that the calls or puts provide. But in many cases, ranging from extremely short-term holding periods to ones of more moderate length, where limited stock moves are likely, one may be better served by trading the underlying entity than by buying options. In this article, we’ll try to answer the question of which is better, an option position or a stock position. It turns out that the answer may be dependent on what one’s objectives are. Also, we’ll reconstruct some trading from past recommendations to see the option vs. stock results.

Philosophies of Trading (16:11)

By Lawrence G. McMillan

This article was originally published in The Option Strategist Newsletter Volume 16, No. 11 on June 15, 2007. 

At the end of most of my seminars, I give a few general tips or principles that one should use. One of those is, “Only trade in accordance with your personal philosophy.” By that, I mean that you shouldn’t indulge in styles of trading that cause you to worry, gnash your teeth, or lose sleep.

Option Buying as a Stock Substitute (04:01)

By Lawrence G. McMillan

This article was originally published in The Option Strategist NewsletterVolume 4, No. 1 on January 12, 1995. 

Buying options is often regarded as one of the most speculative activities. However, as we have shown time and time again, there are often differing ways in which one can establish a strategy. These different ways may change the speculative to the conservative, or at least moderate things somewhat. Buying options is no exception.

Equivalent Strategies (02:13)

By Lawrence G. McMillan

This article was originally published in The Option Strategist Newsletter Volume 2, No. 13 on July 8, 1993. 

Two strategies are equivalent when they have the same profit potential. That is, their profit graphs have the same shape. More experienced option traders know that an understanding of equivalent strategies or positions is vital. It can help in many ways. For example, one may be able to more effectively use his capital by establishing the more favorable equivalent strategy. Or, when trading, he may be able to get a better execution. Finally, he may be able to make better adjustments to his positions by using equivalent strategies. The concept is not new, but even a veteran trader may have to sort through some equivalences in order to choose the best position.

The Dual Calendar Spread (A Strategy for a Trading Range Market) (11:06)

By Lawrence G. McMillan

This article was originally published in The Option Strategist Newsletter Volume 11, No. 6 on March 29, 2002. 

As this stock market continues to trade in a wide range, it is becoming more and more frustrating to all manner of participants – whether they be traders, investors, or option speculators. While I don’t claim to have done a thorough survey of a broad array of traders, I can tell you that the frustration is evident among those that I have spoken with. They include day traders, short-term traders, mutual fund managers, and investment advisors (newsletter writers). About the only ones who seem to be happy (but they are nervous) are naked option writers. They have been making money – as long as the striking prices of the written options are outside of the trading range – but they recognize (at least the smart ones do) that with volatility this low, a price explosion is possible at any time (hence, their nervousness).

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