Smart Cheaters, New OVI Charts
After a volatile few days after earnings season, the markets are soaring to new highs. In my last webinar I suggested that new highs could indeed be made, but I questioned for how long. And at this point I’m still of that view. As ever though, just let the charts tell you what’s going on and try not to be swayed by analysts or TV pundits. They’re all about the “news”, and that rarely pays off.
I’ll send a full market update in the next few days … for now, just be vigilent about protecting your profits and only entering plum opportunities.
In this email I wanted to tell you about the smart cheaters in the markets. Before we do that, I’m delighted to announce that the new OVI charts optimized for iPads is now up and running in the OVI Express40 area of the OTC. It even knows which device you’re using (desktop or tablet), and so far it’s running well. So now you can view the OVI charts anywhere you like – I’ll leave that to your discretion!
Why we do what we do .. Following the Smart Cheaters
The OVI is a tool par excellence because it reveals patterns of trading activity that the everyday trader would otherwise have no way of seeing. We combine it with price patterns in order to give us a clearer picture of trader sentiment. Sometimes options trading is focused on hedging, and sometimes it’s focused on position building from a point of strength – this is what we’re looking to find instances of.
Once in a while an independent article pops up that, without knowing it, completely ratifies our rather special method.
Here’s an article by David Weidner from the Wall Street Journal that makes interesting reading – enjoy!
Insider Trading’s Smart Cheats
Marketwatch’s David Weidner joins the News Hub to discuss the newest breed of ‘smart cheaters’ on Wall Street.
In the world of trading it is often said there are three types of successful investors: smart, lucky and cheaters.
But amid allegations of insider trading in options in connection with Berkshire Hathaway Inc.’s $23 billion proposed acquisition of H.J. Heinz Co., there is a new, fourth category: the smart cheat.
The Securities and Exchange Commission and self-regulating options markets have improved their efforts to crack down on the most brazen insider option trades. Still, as I noted last week, there is ample evidence that many suspicious trades occur still, often on the eve of market-moving announcements.
To give you an idea of how widespread the problem is, a new study to be published in the Journal of Finance and Quantitative Analysis finds that option volume in a specific stock begins to surge three days before unannounced analyst upgrades or downgrades of a company.
And yes, a vast majority of the sudden surge in options bets are correct in predicting whether a stock will rise or fall, according to the study’s co-author, Darren Hayunga, an assistant professor of finance at the University of Texas at Arlington.
Yet even with the overwhelming amount of suspicious trades, the SEC and options-markets regulators don’t generally disclose investigations or even provide figures for how many they pursue.
So, investors interested in fair and transparent markets are left to have blind faith that those trades were vetted and found to be simply lucky or smart.
And those are just the most brazen and most easily detected suspicious options trades in the market.
Smart cheaters avoid detection by masking their trades. They can use dummy bids and offers to make it seem as if there is more interest in a contract than there truly is. More sophisticated traders actually buy puts or calls that lose money to throw regulators off the scent.
“It seems the regulator has taken action in the cases where it is easiest to prove suspicious trading, specifically with single leg long call buying” said Gareth Ryan, a managing director at IUR Capital, one of the options firms assisting regulators in the Heinz case.
The problem, Mr. Ryan said, is that regulators have “not looked at the more sophisticated positions where we know for sure that significant gains have been made.”
A trading pattern that used cover trades occurred most recently in options trading just before Intercontinental Exchange Inc. announced an $8.2 billion deal to buy NYSE Euronext Inc. on Dec. 20.
IUR noticed that trading levels rose to 10 times normal volume between Dec. 6 and Dec. 17.
If someone with inside information was buying up NYSE Euronext options at unusual levels, they would have had a hard time concealing it. But if these trades were conducted by our smart cheater, they would have bid up the calls and then let his bids get hit right at—or very close—to the best bid.
That move would allow the smart cheater to get long the calls for a slightly lower cost and make the call trades look like sales since they got traded on the bid.
Mr. Ryan said “the trader didn’t hit the offer with the block trades. Instead, he disguised the calls as being sold on the bid. This was done by one trader alone, in our opinion.”
The result: 9,000 contracts bought for $5,400 were worth $72,000 upon the deal’s announcement.
Mr. Ryan said his firm discussed options activity in NYSE Euronext with the SEC’s market-abuse unit.
Officials at the NYSE and ICE declined comment.
Let’s hope the regulators follow through. None of these trades alone seems to yield the enormous profits of, say, recently convicted insider trader Raj Rajaratnam, who reaped $52 million in gains, according to prosecutors.
But the combined tally could equal or exceed the former hedge-fund titan’s take.
More importantly, the seeming ease at which both the brazen and skillful insider options trader applies his or her craft is alarming.
It is to the point that the cheats and the smart cheats are so free to roam that if you don’t see what’s happening you, aren’t unlucky—just dumb.
More soon.
All the best
Guy