The stock market in India is witnessing a surge of traders and investors, with billions of rupees worth of financial instruments changing hands daily. A significant portion of this trading volume takes place in the Future and Options (F&O) segment. Options trading, in particular, has gained popularity among both retail and institutional traders due to its unique characteristics.
Traders use technical indicators some of which are the best indicators for options trading. Options trading differs from equity trading, primarily because options have short lifespans, and approximately 90% of options become worthless at expiry. As a result, traders cannot hold options for extended periods.
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Intraday traders, especially experienced ones, utilize various technical indicators, some of which are considered the best indicators for options trading. Experienced retail traders use the best indicators for day trading based on technical analysis. These indicators help traders enter and exit options trades based on technical analysis. Among the numerous technical indicators preferred for intraday trading, the following are some of the best indicators for options trading:
- RSI (Relative Strength Index)
- Bollinger Bands
- MFI (Money Flow Index)
- Intraday Momentum Index
- PCR (Put Call Ratio)
- Open Interest
Before engaging in options trading, it is essential to understand the process and associated risks. When a stock’s price is expected to rise, traders have two options:
- Call Option: They can buy a Call option at the nearest strike price, which allows them to benefit from the stock’s potential increase in price.
- Put Option: Alternatively, they can sell a Put option at the nearest strike price, enabling them to profit from a bullish market scenario.
Conversely, during a downtrend, traders can consider the following options:
- Call Option: They can sell a Call option at the nearest strike price, benefiting from the stock’s anticipated decrease in price.
- Put Option: Alternatively, they can buy a Put option at the nearest strike price, providing them with the opportunity to gain from a bearish market outlook.
The strike price is the closest price to the current price of the stock’s future, at which the options are available. For instance, if the Nifty is at 16,523, the nearest strike price for Call options would be 16,500, and for Put options, it would be 16,550. To minimize the impact of time decay, it is advisable to close the trade on the same day.
Time decay refers to the gradual decrease in the option’s premium as each day passes. To mitigate the effects of time decay, traders can use technical indicators for decision-making. Intraday technical indicators assist traders in entering and exiting trades based on signals generated by the indicators.
Options trading entails substantial risks, and without a rational approach, traders can quickly deplete their capital within a short period. Hence, comprehending the correct way of trading options is of utmost importance to manage risk effectively.
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Best indicators for intraday trading
When it comes to intraday trading, there are numerous indicators available to assist traders in making informed decisions. However, for the purpose of options trading, we will concentrate on a select few technical indicators that are particularly suitable. Traders can utilize these indicators individually or in combination as the best indicators for intraday trading options. Here are some of the top indicators:
RSI (Relative Strength Index)
RSI, which stands for Relative Strength Index, is a momentum indicator used in trading. Its primary function is to determine the overbought and oversold conditions of a stock. By comparing current gains to current losses, RSI calculates the price momentum. This indicator is valuable in identifying potential trading opportunities based on these overbought and oversold conditions.
The RSI scale ranges from 0 to 100, where a reading above 80 indicates the stock is overbought, and a reading below 20 indicates the stock is oversold. Traders utilize these readings and price divergences to make informed decisions when entering options trades.
RSI is particularly well-suited for options trading in individual stocks. However, it is not recommended for trading indices. For options trading, it is advisable to focus on high-beta stocks with sufficient liquidity. These characteristics enhance the effectiveness of RSI in identifying favorable trading opportunities.
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Bollinger Bands is a popular indicator used by options traders. It effectively indicates the level of volatility in the market, a crucial factor affecting options prices. When market volatility increases, the width of the Bollinger Bands expands significantly, indicating potential price movements. Conversely, during periods of low volatility and minimal stock price movement, the band’s contract.
The upper band of the Bollinger Bands acts as a resistance level, while the lower band serves as a support level. As a result, when the stock price approaches either the upper or lower band, there is a high likelihood of price reversals. If a breakout occurs, where the price breaches either the support or resistance levels, the Bollinger Bands allow the price to readjust itself gradually.
For day trading, Bollinger Bands are considered one of the best indicators to identify potential trading opportunities. When the upper band is breached, options traders may consider buying a Put option or shorting a Call option. On the other hand, if the price breaks down below the lower band, options traders may contemplate buying a Call option or shorting a Put option.
By using Bollinger Bands, options traders can effectively gauge market volatility, identify key support and resistance levels, and make informed decisions to capitalize on potential price movements.
IMI (Intraday Momentum Index) – Among the best intraday trading indicators
The IMI, also known as the Intraday Momentum Index, is regarded as one of the best indicators for options trading, especially for high-frequency options traders engaged in intraday trading. This indicator combines the concepts of oversold and overbought conditions with the intraday trading range.
For intraday traders, the IMI provides efficient trading signals. It helps traders identify when the price has moved outside the usual trading range and predicts potential reversal points. Moreover, it allows traders to initiate contrarian trades during minor price reversals.
By utilizing the IMI, options traders can enhance their intraday trading strategies, making well-informed decisions based on the indicator’s signals. This can lead to more effective trading outcomes and improved results for high-frequency options trading in intraday sessions.
Supertrend is undoubtedly considered one of the best indicators for options trading. Although it operates similarly to moving averages and MACD, Supertrend’s main component is based on the Average True Range (ATR). It consists of two components, with the default ATR of 10 periods and a multiplier of 3.
For intraday trading, Supertrend is highly effective on a 15-minute chart. Options traders find it particularly useful as it provides clear buy and sell signals. This attribute makes it a valuable tool for options trading, hence its reputation as one of the best indicators in this context.
To maximize its effectiveness, Supertrend is often used in conjunction with other indicators. A buy signal occurs when the Supertrend indicator goes below the price candle, while a sell signal is generated when Supertrend rises above the price candle.
By incorporating Supertrend into their trading strategies, options traders can make more informed decisions and enhance their trading outcomes. Its ability to provide definitive buy and sell signals is a significant advantage in the fast-paced environment of options trading.
PCR (Put Call Ratio)
The Put Call Ratio (PCR) is a market sentiment indicator that measures the total volume of Put options traded compared to the total volume of Call options traded. Rather than considering the absolute value, analyzing the change in the PCR value provides a better indication of shifts in market sentiment.
The PCR is calculated as follows: PCR = Total volume of Puts written / Total volume of Calls written. When the PCR value is greater than 1, it indicates a bullish sentiment, while a PCR value less than 1 suggests a bearish sentiment. Traders can also examine historical PCR values to identify extreme market sentiment levels at both ends.
By using the PCR as a market sentiment indicator, traders can gain insights into the prevailing sentiment among investors and make more informed decisions in their options trading strategies. Monitoring changes in the PCR value can help traders gauge shifts in market sentiment, leading to potential trading opportunities and risk management.
OI (Open Interest)
Open Interest (OI) is another important indicator used in options trading. It refers to the total number of outstanding open contracts for a particular option at any given time. OI provides valuable insights into the strength of a particular trend in the market. When OI is increasing, it indicates growing strength in the trend, whereas declining OI suggests weakness in the trend.
Due to the active participation of traders in the Futures and Options (F&O) segment, OI values change rapidly, reflecting the prevailing sentiment and indicating the direction in which the market may move. Traders often use OI in conjunction with other indicators to enhance their options trading strategies and gain valuable insights into market trends.
Trading options is tricky, risky, and requires the ability to react quickly. It is best to use a trading system using a combination of indicators to get confirmation about the trend before initiating a position. For intraday options trading, buying options prove to be more rewarding. But all the trades must be closed or stopped before the close of the day. Buying options are only suitable for intraday. Option writers keep the trades till expiry to eat premium due to theta decay.
While the aforementioned indicators are widely considered the best options for intraday trading, it is not uncommon for traders to customize and develop their unique set of indicators tailored to their specific trading strategies.