Seeking Diversity

Cheat Sheet #19

It’s Your Move

Remove and save this page!

Trading platforms offer built-in tools that point toward expected stock prices

By Mike Hart

The market is defined from moment to moment by every single decision made by each trader—combined with all of the decisions made by all of the other traders—and instantly processed and displayed.

With each tick up, down or sideways, the winners and losers prepare for their next trade. For most traders, that preparation centers on forecasting future movement.

While some traders rely on instinct to predict the movement of the market, others improve their odds of success by using tools built into their trading platform.

Those tools can do the math and point to the expected movement of a market over a given period of time. Then the tools take another step and determine the probability of a future move and the probability of touch.

The probability of touch is the likelihood that a stock will trade up or down to a strike price at some point between now and expiration. But it may not stay at that level.

Using options, traders can estimate the movement of a market over a given time period. They can take that another step further and determine the probability of a future move, including when it may occur. They can also determine the probability of touch.

Mike Hart, a former floor trader at the Chicago Stock Exchange and proprietary futures trader, specializes in energy markets and interest rates. He’s a contributing member of the tastytrade research team. @mikehart79

Great expectations

1

Determine a short option’s probability of success by choosing a delta and subtracting from 100.

2Most trading platforms determine the expected move. The tastyworks platform displays this in two different ways. The first is by looking at the far right of the options trade page. There you will find a +/- expected move. Another way is looking for the orange-brown line on the trade page. Finally, you can use the equation below for the expected move.

The expected move = Price of an at-the-money (ATM) straddle x 60% + Price of strangle one strike away from ATM x 30% + Price of strangle two strikes away from ATM x 10%

Delta To calculate Probability of success

16 (100 – 16) = 84 84% 30 (100 – 30) = 70 70% 40 (100 – 40) = 60 60%

Date

Days

Jan. 21, 2022 44 Feb. 18, 2022 72 March 18, 2022 100 April 14, 2022 127 May 20, 2022 163

Apple Inc. (AAPL) $174 Implied volatility Expected move

33.5% ±$11.76

35.8% ±$16.94

35.1% ±$20.01

35.2% 35.2% ±$22.72 ±$26.72

3

The probability of touch is the statistical likelihood that a strike price will be reached at some point prior to expiration. It is useful to consider because it gives context to expectations for a trade.

Delta To calculate Probability of touch

16 Multiply by 2 32%