As an Options Trader it’s important at all times to have a good understanding of the market direction. We have a lot of resources and tools to check on the overall market strength. We can watch futures overnight to help predict the opening of the market and we have the indexes during open market hours that help us gauge how the money is flowing throughout the day.
SPY in particular should be in every Options Trader watchlist at all times. If you are unfamiliar with SPY it is the S&P 500’s ETF Trust and all of its funds is diversified amongst stocks within the Standard & Poor’s 500 Index. Most of the market correlates with the direction of SPY so if SPY is up a couple of dollars we’ll find the majority of other blue-chip stocks up as well. Vice versa if SPY is down a couple of dollars most blue-chips will be down.
Before you enter into a trade it’s highly recommended to see how SPY is performing and where it’s at for the day. If SPY is overbought and you’re buying calls into another stock within the S&P500 then you’re likely to experience a pullback on that stock as SPY trickles down from overbought conditions.
To help identify when SPY is overbought and oversold I like to use the Money Flow Index (MFI) as it shows the flow of the money in the market. MFI can help identify when SPY is going to pullback or reverse it’s trend.
Now if you’re a SPY trader you know that anything can happen in just a few candles within SPY. The volatility in SPY is intense for options. One second you can be up 5% and another down 12%. This is no exaggeration either. If there is intra-day news in the economy expect those numbers to change wildly. More recently when President Trump has tweeted about the economy, especially the trade tariffs, we have seen SPY make $1.00 plus movements in a single one minute candle. This throws so much volatility in the market that can it be glorious or disastrous for your options trade.
With so many quick movements in the market how can we expect to play SPY successfully? It’s simple. We use MFI to notify us. The strategy below is best used with SPY when it’s oversold on MFI specifically on the 15 minute chart. Let’s break it down:
Here is SPY on the 15 minute chart. Look at how volatile this is. As shown above there are some pretty wild movements intra-day. If you can successfully determine the direction of SPY you could solely trade SPY every day. That of course isn’t realistic. However, let’s add the Money Flow indicator to our chart and see what happens:
The MFI will determine overbought territories with a reading above 80 and oversold territories below 20. If you would like more information regarding MFI you can read my write up here.
Taking the chart above I have highlighted the area’s where SPY is oversold. For this particular strategy we only want to focus on oversold territories as it has a higher success rate then buying when SPY is overbought.
Notice how each time MFI is oversold AND BELOW 20 we see a nice reversal occur. This occurs every single time. Which means as an Options Trader we can “safely” enter a call position whenever SPY gives us this reading. Here are the last three months of SPY using the 15 minute chart. I have highlighted every oversold territory and have drawn a line where SPY has increased:
Again, as mentioned above we only want to find areas where SPY is oversold. Notice that there are times when SPY is overbought but the reversal doesn’t occur. Thats because most of the SPY selling off can occur after hours so if you find yourself buying the overbought during the day you may be riding out a loss until After hours, in which case it becomes a gamble.
So as a quick highlight this strategy can be used specifically with SPY on the 15 minute chart to find intra-day call opportunities when the price is oversold with an MFI below 20.
I encourage you to go back in SPY history and see when this strategy didn’t work. It’s very rare. Even during our recent bearish months of October - December we would have been able to capture gains with this strategy.
Thanks for reading and as always - good luck and happy trading!