The Wednesday before options expiration is usually one of the most volatile trading sessions of the month. As we all know options expiration is on the third Friday of every month. The April expiration will be on April 15, 2011 this month. Many of the small retail options traders will trade the near term expiration because they do not have to lay out a large amount of capital in order to take a position in a stock. By the Wednesday before options expiration the institutions have taken care of most of their business by shaking the small retail options trader out of there option position. Please understand that the small retail options trader is usually just trying to capture the a gain in the premium paid for the option. They will rarely exercise a stock option and will almost always settle the position for a gain or loss before the actual expiration date. Therefore, the entire trading week before the actual expiration date is very volatile.
Today, the major stock indexes all started the day with a sharp gap higher open. Since that opening bell high, the major indexes declined sharply lower into the noon hour erasing all of the early gains. Then the major stock indexes rallied back into positive territory. This is what you must expect on the Wednesday before options expiration. Hence the saying, ‘whipsaw Wednesday’. Traders must always be careful and selective when trading during the week of options expiration. The institutions have elaborate computer programs that can figure out where the majority of the small retail options traders have placed their bet. This is not hard to do by the human eye if you are watching the options market closely. Imagine how easy it is for a computer. Most professional traders will simply accept what the market is willing to give this week. It is not a time to get greedy, it is a time to be prudent and to use stops on all positions.
Traders can easily look at some of the sell offs and rallies in stocks such as Netflix Inc. (NASDAQ:NFLX), F5 Networks Inc. (NASDAQ:FFIV), ConocoPhillips (NYSE:COP), and Valero Corp. (NYSE:VLO). These are all stocks that are being tossed around like a cheap suit by the institutions in order to shake out the weak handed retail options trader. Beware of this activity, it goes on every month.