By Justin Zacks, VP of Strategy of Moomoo Technologies Inc.
The meteoric rise of retail options trading accelerated by the pandemic continues. In 2019
retail options volumes were 34% of total trading, peaking at 48% in the second half of 2020
before reaching 64% in 2023, according to the New York Stock Exchange.
The democratization of trading knowledge through social media and educational platforms
has enabled more novices to explore the complexities of options trading if they have been
careful to select useful sources that have been properly vetted.
Despite the rapid growth of options trading among retail investors, continuous education
and strategic adaption are essential when aiming for sustained success. It’s crucial to
understand not only the how and why behind this surge, but also the strategies that can
help both beginner and advanced traders optimize their trading approaches.
Key Factors in The Rise of Retail Options Trading:
1. Increased Accessibility: The lowering of fees opened the market to a broader
audience, enabling more traders to experiment with diOerent strategies without a
financial barrier. Prior to this shift, in the early stages, many brokerages charged up
to $10 a trade, that fell to around $5 a trade in the 2010s and got us to today’s age of
commission-free trading adopted by many platforms, encouraging higher trading
volumes and liquidity.
2. Social Media Influence: Platforms are providing investors with online forums where
they are able to share detailed insights and real-time analysis on market
movements. Social media platforms like X have played a role in demystifying
options trading, sharing successful strategies and providing a forum for discussion.
These forums provide investors with a community that they can engage with at all
times that may help them reach the next level of investing.
3. Reputable Educational Resources: A plethora of educational videos, webinars, live
community dicussions, quizzes, and articles are now at investors’ fingertips.
Platforms are taking a more active approach to providing investors with the
materials that they can use to trade and navigate the platform’s features and tools.
There are tutorials and lessons on how to use options chains, drawing and charting
tools, technical indicators and more that equip investors with the knowledge to
incorporate these tools in their daily options trades.
This transition from the sentiment of “exclusivity” to more widespread interest and access
to options trading for investors that have met specific qualifications underscores the need
for robust, adaptable strategies that can harness the potential opportunities of this more
open, educated market.
Strategies for Retail Options Traders
For those looking to navigate the options market, understanding and implementing
eOective strategies is key. While these strategies can be implemented independently, they
are often more eOective when combined, allowing traders to tailor their approach
according to market conditions and personal risk tolerance. Here are five considerations
that are relevant to most options traders regardless of their level of experience and risk
tolerance.
Understand Implied Volatility
Implied volatility (IV) is a critical concept in options trading. It represents the market’s
expectations of a stock’s future price volatility and is a key to determining an option’s price.
Higher IV usually means higher options premiums, reflecting greater expected price
movement. Retail traders can compare IV to historical volatility to gauge whether options
appear to be overpriced or underpriced relative to past price performance.
During earnings season, stocks often exhibit higher IV due to anticipated price swings.
Traders may be able to capitalize on this by selling options to potentially benefit from
relatively higher premiums, assuming the actual volatility will be lower than the implied
one. There is a risk that such opportunity may be available only a short time though due to
the tendence of some stocks to exhibit a sharp decline in IV directly after reporting
earnings. Conversely, buying options when IV is relatively low may be advantageous if a
significant price movement is expected by an investor.
Consider Spread Strategies
Spread strategies are usually used by traders to buy and sell multiple options contracts
simultaneously to help manage risk and better define potential returns. Two often used
spread strategies are credit spreads and debit spreads.
– Credit Spreads: This strategy involves selling a higher premium option and buying a
lower premium option, resulting in a net credit. For example, a bull put credit spread
involves selling a put option at a higher strike price and buying another put at a lower
strike price and can profit from stable or rising stock prices, with the theoretical
maximum loss limited to the diOerence between the strikes minus the net credit
received.
– Debit Spreads: This strategy involves buying a higher premium option and selling a
lower premium option, resulting in a net debit. A bear put debit spread, for instance,
involves buying a put option at a higher strike price and selling another put at a lower
strike price. This strategy can profit when stock price decline, with the theoretical
maximum loss limited to the net debit paid.
Exploring the Use of Covered Calls
Covered calls are a strategy that may be useful for those holding long positions in stocks.
This strategy involves selling call options against owned shares to generate income. The
premium received from selling the call option provides a buOer against minor declines in
the stock’s price, while the obligation to sell the stock at the strike price caps the upside
potential.
For example, if a trader owns 100 shares of Company XYZ, currently trading at $50, they can
sell a call option with a strike price of $55 expiring in one month. If the stock is below $55 at
expiration, they keep the premium and remain long the shares. If it closes above $55 at
expiration, they are obligated to sell their shares at the strike price, possibly missing out on
higher gains but still potentially profiting from the premium and stock appreciation. Keep in
mind, this strategy does not protect from a large downside move in the underlying stock
price.
Monitor Market Liquidity and Trends
Liquidity is vital in options trading as it impacts the ease of entering and exiting positions.
Highly liquid options, typically found in large-cap stocks and ETFs, oOer tighter bid-ask
spreads, generally reducing trading costs and slippage. Retail traders can focus on liquid
options in an eOort to achieve eOicient trade execution and minimize transaction costs.
Additionally, staying updated on market trends and news can be important. Several
platforms provide advanced tools for technical and fundamental analysis, helping traders
evaluate potential entry and exit points. Regularly reviewing market conditions, economic
indicators, and company-specific news can provide insights into future price movements
and volatility.
Risk Management and Position Sizing
Effective risk management is a cornerstone of successful options trading. Retail traders
may benefit from defining their risk tolerance and setting strict rules for position sizing,
stop-loss orders, and profit targets. Diversifying options strategies across different stocks
and sectors can also help to manage risk.
For instance, a common guideline followed by some investors is to risk no more than 1-2%
of the trading capital single options trades. This approach helps to better manage losses
during losing streaks and mitigates the risk that no single trade should significantly impact
the overall portfolio.
The Future of Retail Options Trading
As the market evolves, so too will the strategies and tools available to traders. We
anticipate greater integration of AI and machine learning to guide trading decisions, which
could likely provide a more intuitive and informed trading experience. Moreover, the
potential introduction of more granular trading options, like daily expirations, could further
revolutionize the market.
