Many stock traders love the opening action because of the heightened volatility. But what’s great for stocks is not necessarily good for options -- especially at the open.
But trading options just after the open can be a bad idea. Options are much less liquid in the first 15-20 minutes of trading, which means less liquidity and increased risk of trade slippage. While momentum stock traders may love the open, options traders should think twice before rushing to trade.
Most news headlines (like earnings announcements, upgrades/downgrades) come out after the market closes or before the open.
So the first few minutes of trading is the first time prices can adjust to the news.
A stock will find a new trading range based on the news, so it’s common to see things move very quickly.
That’s great for momentum stock traders looking for fast moves -- but those wide ranges can cause problems for options traders.
Options tend to lag stocks in terms of pricing and liquidity. This makes intuitive sense because the stock's price is an input into the options price is right. After all, you can’t have an options price without a stock price!
So if that stock is attempting to digest the news and find its new trading range, then the options can't really get right.
This means that the bid-ask spreads are typically wider, and the market makers are less likely to offer the liquidity simply because the stock price less less predictable.
Option books are often slower to fill out, especially on lower volume/lower liquidity contracts.
And wider spreads means a higher the chance of poor trade fills.
Let's look at a weekly options chain on Zoom (ZM) after it reported earnings:
This is what it looked like at the open:
This screenshot was taken in the first few minutes after the open following earnings. So it’s bound to be a volatile, busy day.
You can see just how wide the spreads are.
Look at the $93 calls. The bid is $3.70 and the ask is $6.50 for a spread of $2.80!
That’s about a 50% difference, which is a massive spread for options that should actually be trading in the $4.50 - $5.00 range.
Since the spread is so wide, there’s almost no volume.
There’s a massive difference between getting selling at $3.70 and $4.50. Or getting in at $5 instead of $6.50.
Now let’s look at the same options chain after the first 30 minutes:
Look how much the bid-ask spreads have tightened.
So it’s going to be way easier to get in and out, and there’s way less slippage.
That means volume and liquidity go way up.
What About Stocks With No News?
Now, this is a stock that had news -- earnings news.
On a stock with no news, there’s going to be even less options volume around the open.
So it could take even longer for price discovery to happen, meaning wider spreads and more slippage.
This is why I’m patient with my options traders around the open.
I want to see the books fill out, and I want the spreads to tighten.
Otherwise, I’m at risk of overpaying when I buy, and getting less when I sell.
P.S. Want my daily options trade ideas? Click here to learn about Options in Play.