As stock derivatives, options offer some tremendous leverage opportunities to play high-priced stocks or simply very active/liquid securities. Options are not only offered on equities but indices, futures and commodities. Market makers use options as easy hedging vehicles but that only works well when there is good open interest.
This brings me to the issue of liquidity. It seems these days there are limited amount of participants who even want to venture into the realm of option market makers. I am not talking about your highly liquid names such Facebook (FB), Microsoft (MSFT), Intel (INTC), Apple (AAPL) but, rather, the offbeat names that have good price action yet lack the punch of good volume. Note, the two most important indicators are price and volume. Some stocks just have so little volatility that the options market is completely ignored. When that happens, the spreads create an impossible entry point.
The main issue is this: Am I able to get in and out at a fair price, or am I being taken for a ride? Can this trade improve so more can participate?
Take a look at a name like Priceline (PCLN). This four-digit stock trades well below its float and its shares are clearly held by institutions and insiders. They don't care about the options market -- that is evident by the poor open interest in the name across all strikes. The November $1,150 monthly strike has about 850, which is the highest amount. All other strikes are far lower. These prices, of course, are all high and pretty much freeze out any buyers.
Now, let's take a look at Red Robin (RRGB). The chart was looking good the other day before the company's earnings release, but looking at the open interest, the highest level was the $60 strike, which had less than 300. The stock trades well below one million shares a day, but the lack of interest causes the spreads to be wider than a semi-trailer truck. So, I just had to pass.
The chart is strong and after Tuesday's earnings release, it appeared to be ready for a bigger move. I looked at it when the stock was up $6 -- it went up further the end of the day, and on Wednesday, Red Robin pushed up 4%. However, the options provided little edge to an entry or exit. For example, the November $60 call finished Wednesday with a bid/ask spread of 5.2 x 7.90 -- horrid!. The market makers are egregious, but it's really about not letting "you" in the game. This is symptomatic of many names out there.
So, with little liquidity in names, there is less volume, yet we see the biggest market maker, CBOE (CBOE) making new highs day after day. Where is the liquidity? I see it in the weekly options, the newest product and the most used of late. Further, the Market Volatility Index (VIX) options and index options see quite a bit of daily activity ¿ but, for the "little guy," it becomes incredibly hard to participate.