Last update: June 2021
Prepare for a revelatory experience, one that will make you wonder at the wisdom of the crowd and the efficiency of markets. One of the inputs to pricing an option is volatility. Think of it as how much you expect the underlying stock to move. If you expect it to move a lot, then the option price will be high. If you expect to move a little, then the option price will be low.
Said another way, if you know volatility, then you can solve for an option’s premium. And it works in reverse too. If you know an option’s premium, then you can solve for volatility. That is, you can figure out what the expected volatility is based on an option’s premium. Here’s an example:
Stock XYZ will exhibit 30% volatility over the next month. Knowing that information, I can calculate that its one-month, at-the-money call option should be priced at $5.00.
The one-month, at-the-money call option for stock XYZ is trading for $5.00. That implies that the stock will exhibit 30% volatility over the next month.
Key takeaway: you can look at an option’s premium to determine just how volatile the stock is expected to be.
Who sets the option’s premium?
Buyers and sellers, otherwise known as supply and demand. And while one or two traders may be foolish dunderheads, the market in aggregate is pretty good at estimating how volatile a stock is going to be. That means that most of the time option premiums do a respectable job at forecasting how much a stock will move.
If we’re splitting hairs, the market typically overestimates how much a stock is going to move, but that’s a story for another day.
Now, why is knowing how much a stock is expected to move helpful? Well, for a ton of reasons.
A) It can help you place your stop loss a reasonable distance from the current price.
B) It can help you spot price moves that are abnormal or outliers.
C) It can help you decide which strike prices to use when selling options. For example, you can make a bet that the stock won’t move more than expected by selling options with strikes outside of the forecasted range.
The Market Maker Move (MMM) typically shows up before an earnings release and identifies the expected range a stock should trade in with the earnings gap. For example, Costco, which reports earnings on December 14th (this Thursday) has a MMM of $7.33.
That means based on current option premiums, the expected range for COST is $7.33. We can add/subtract that to its current stock price ($188.86) to get an idea of what that looks like on the price chart.
As shown below the upper end of the expected move is $196.19, and the lower end is $181.53.
In case you’re wondering, that doesn’t mean there is a 100% chance that COST will remain in this range through earnings. It represents a one standard deviation move. Essentially there is a 68% chance Costco will sit in the range. That’s the confidence interval. So, if options are correctly priced, and you were to bet that COST would stay in the expected range for the next 100 earnings announcements, you would be right about 68 out of 100.
Do you have to wait until the Market Marker Move feature shows up at the top of your option chain to discover this information?
It’s already displayed for each expiration cycle. That’s what all those numbers are on the right side of the chain. The percentage is the implied volatility for that period, and the number in parenthesis is the expected move higher/lower between now and then. So, for example, the Jan monthly (19 Jan 18) that expires in 39 days has an implied vol of 23.37% which translates into an expected range for COST of up/down $11.62. That means if you were going to sell a bull put spread and wanted to be outside of one standard deviation then you would need to make sure your strikes were at least $11.62 below the current stock price ($188.86).
Tackle Trading Tutorials on Thinkorswim
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Thinkorswim Tutorials [Free Videos]
In this Thinkorswim video tutorial, Coach Matt teaches how to place the entry order on a short stock position.
In this video tutorial, you will learn how to determine the Market Maker Move (MMM) for earnings gaps in Thinkorswim.
In this video tutorial, you will learn how to adjust Thinkorswim (TOS) to show multiple charts in the same window.
In this Thinkorswim (TOS) video tutorial, join Coach D. to learn how to place a contingency order for a long put option with a stop loss the right way.
In this Thinkorswim (TOS) tutorial video, Coach Matt Justice does an interface walkthrough and basic platform setup to show new traders how this powerful trading platform works.
In this video tutorial, Coach G shows how to increase font size and memory to make navigating and performance of Thikorswim Platform (TOS) much easier and better.
In this video tutorial, Coach Gino Poore shows how to setup the monitor tab in Thinkorswim (TOS) by adding trade price, Delta, and Theta to your trading positions.
In this video tutorial, you will learn how to set up a Debit Condor (DebiCon) in Thinkorswim (TOS).
In this video tutorial, Coach Matt takes a look at how to adjust the Risk Graph for Theta (measuring Time Decay) using in Thinkorswim (TOS) trading platform.
In this video tutorial, Coach G shows shares a great time saver technique on how to link all your tabs and pages in the Thinkorswim (TOS) platform.
Coach G. shows you how to enter an option with a limit order when the stock triggers an entry price.
Coach Matt takes a look at how to enter into a forex trade using Thinkorswim or MT4.
In this tutorial video (Part 1), Coach Gino Poore shows how to set up a “customized” bracket order he built in Thinkorswim (TOS).
In this tutorial video (Part 2), Coach Gino Poore shows how to set up a “customized” bracket order he built in Thinkorswim (TOS).
In this tutorial video (Part 3), Coach Gino Poore shows how to set up a “customized” bracket order he built in Thinkorswim (TOS).
In this Thinkorswim Tutorial, Coach Gino Poore teaches you how to add ATR and Expected Move to Chart corner.
In this video tutorial, Coach G. shares another useful tip on setting up and managing alerts using Thinkorswim (TOS).
In this video tutorial, Coach Gino shows how to add the Probability Cones to your Thinkorswim (TOS) charts to project price ranges going forward.
In this Forex Trading 101 Thinkorswim tutorial video, Coach T talks about how to chart the US Dollar against the major cross-pairs using the famous TOS trading platform.
Coach T is back to answer a question on how to calculate PIP Risk on a Forex trade in Thinkorswim (TOS).
In this video tutorial, Coach T teaches how to set a stop loss on positions you already have in Thinkorswim (TOS).
In this edition, Coach T answers a question regarding the risk management of a credit spread in Thinkorswim (TOS).
In this tutorial video, Coach T shows how to manage a credit spread and how to set up a contingency in ThinkOrSwim.
In this video tutorial, Coach Tim from Tackle Trading shows how to use the Monitor Tab in Thinkorswim.
In this Thinkorswim tutorial video, Coach T walks the team through how to use the risk graph for options trading.
In this video tutorial, Coach T walks the team through how to set a basic stop on a covered call or naked put position.
In this video tutorial, Coach Tim teaches how to Beta Weight and Portfolio Hedge in Thinkorswim (TOS).
In this video tutorial, Coach Tim from Tackle Trading shows how to use the Monitor Tab in Thinkorswim.
Thinkorswim (TOS) Tutorial: How to add ATR and Implied Volatility overlapped on a chart in Thinkorswim
In this video, you’ll learn how to stack Implied Volatility (IV) and ATR (Average True Range) in the same indicator window in Thinkorswim software platform.
In this article, you are going to find a collection of Thinkorswim (TOS) basic video tutorials by Coach Tim Justice.
In this tutorial video, Coach T teaches how to manage stock trades in Thinkorswim (TOS).
In this video tutorial, Guest Coach Brad May pulled together this how-to video about setting up a My Tools Bar on Thinkorswim.
In this Thinkorswim video tutorial, you will learn how to input the entry, target, and stop-loss and when exactly you would use the “Limit Linked To” feature.
In this article, you are going to learn how to use the Thinkorswim Market Maker Move Tool.
In this video tutorial, Coach Noah Davidson walks through how to place a Short Strangle order in Thinkorswim (TOS).
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