Thursday, November 14th, 2019

Fifty-Two Week Moving Average in Options Trading

 

Options traders can use the fifty-two week moving average to decide whether puts or calls are a better approach to trading a given stock. The fifty-two week moving average helps spot both support and resistance levels. The fifty-two week moving average or moving averages for longer terms also help you see when a secondary trend is occurring within a primary trend or when a primary trend is occurring within a secular trend. For quick reference here is a breakdown of these trends:

  • A secular trend lasts more than five years.
  • A primary trend lasts for more than a year but less than five.
  • A trend that lasts for a few weeks or months but less than a year is called a secondary trend.

There are various options trading strategies. All of them depend upon successful analysis of the market for their success. One is to use the fifty-two week moving average and here is how it works.

Daily Prices and Market Average

All too often the price action of a stock resembles a set of random numbers. One of the ways to make sense of what can look like gibberish is to use a moving average. A 52 week moving average shows you where a stock is headed despite often confusing fluctuations. The moving average helps define the likely limits to stock price within a given range. Thus an options trader can feel assured than when he buys calls or puts that he is on the track toward profits and not simply giving away the price of the options contract.

Calculating the 52 week moving average of a stock:

Calculate the sum of the middle price for each day of trading for each trading day for the last fifty-two weeks. Divide this number by the number of days of trading. Then calculate this for every day by removing the earliest day and adding the day just past.

Superimpose the moving average for the last 52 weeks on the same chart as daily stock prices. When the current trading range lies above the average, the average line to be a support level below which prices are unlikely to drop. When the current trading range lies below the average, this average to be a resistance level above which the price of the stock is unlikely to rise. This is a technical analysis technique that can be effective even when the trader does not consult the fundamentals that drive prices. This is a method that helps exploit market inefficiencies. Often times the most profitable option trade is simple and based on the perspective that one gains from looking at a moving average.

Trends within Trends, the Russian Dolls

Sometimes the market makes more sense when you think of price patterns being nested on within another. Think of the carved Russian dolls that are nested one within another. If you are looking at the third one in you are not getting the whole picture. If you are looking at a two month long trend this is a secondary trend and you will want to look at the fifty-two week moving average to see if the current trend runs counter to the prevailing trend. Also look at the last year or two. If fundamentals have really changed then you may really be in a new trend that will take over. However, when fundamentals have not changed you are probably seeing a short term trend. Then you can often profit by taking what may seem to be a contrarian approach and trading against the current, short trend. This can be especially effecting when timing options sales or purchases in an uncertain market.

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