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What “tell” are options markets showing us?

poker.jpg 

BY: HANS ALBRECHT, CIM®, FCSI, VICE PRESIDENT, PORTFOLIO MANAGER AND OPTIONS STRATEGIST, HORIZONS ETFS

In the game of poker, a great way to gain an edge is by effectively reading an opposing player’s “tell”. A tell can be a change in behavior that a player unknowingly exhibits when they perhaps have a good or bad hand, such as scratching their nose or suddenly becoming very serious.

As an options trader, I like to watch volatility products for a tell that can sometimes help me to determine which way the market will go in the short to medium term. Option pricing (as depicted by the VIX) tends to be negatively correlated to equity market direction. For example, when stocks rally, option prices will generally sell off, and vice-versa. At times, however, this relationship can weaken, particularly during times of market turbulence or even after a steady rally. Near the end of such a rally, we often see option pricing begin to firm up even though stocks continue higher.

This is something important to note, because it signals a higher level of skepticism and perhaps the impending exhaustion of buying power on the part of equity bulls. I’ve seen this play out again and again. With the VIX on the upswing this week, pay attention to what it’s telling you.

The views/opinions expressed herein may not necessarily be the views of AlphaPro Management Inc. All comments, opinions and views expressed are of a general nature and should not be considered as advice to purchase or to sell mentioned securities. Before making any investment decision, please consult your investment advisor or advisors.

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