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Strategies & Market Trends : Ask Vendit Off-Topic Questions
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To: J.K. who wrote (5049)2/17/2005 11:28:16 PM
From: Walkingshadow  Read Replies (1) of 8752
 
Hi JK,

Max Pain is a general guide that tends to be useful when there is a large discordance between the Max Pain point and the price of the underlying going into expiry. The greater the discordance, the more significant that is, and the greater the probability that the options pits will influence the price of the underlying (or try to).

Also, Max Pain tends to be more useful with stocks, not indexes, because stocks can usually be muscled one way or another if the volume and float and stock price are not too high.

There are a lot of things not taken into account by a simple reading of the Max Pain point that inject uncertainty. For example, it makes a difference who is on which side of the trade---who is selling calls and puts and why, and who is buying calls and puts and why. So, for example, if there is a ton of calls being sold just as a hedge by institutional traders, that is one thing... but if there are a lot of calls being bought by institutional traders for trading/speculative purposes, that's quite another.

The upshot I think is that it is not wise to read much into the Max Pain when the discordance between that point and the price of the underlying is not that great. It is not unusual to see QQQQ options expire a dollar or two away from the Max Pain point.

T
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