What Are the Best Stocks for Options Trading?

Choosing the best stocks for options trading is a subjective endeavor that depends heavily on one’s strategic approach, market outlook, and risk tolerance. In the options realm, investors and traders don’t necessarily use traditional forms of analysis to identify potential opportunities, such as fundamental or technical factors. Instead, options traders often rely on metrics like implied volatility, implied volatility rank, and the broader environment for volatility (aka the VIX). 

In terms of specific underlyings, it’s also difficult to say for certain that a particular underlying is “best” for trading options. At a high level, options traders usually focus on underlyings with robust options volume. Beyond that, however, an individual investor or trader’s decision to trade the options of a specific underlying will depend heavily on their perception of the available opportunities, and their outlook on the broader market.

That said, some investors and traders may focus on the options of underlyings in well-known market indices, such as the Dow Jones Industrial Average, the S&P 500, and the Nasdaq Composite. Focusing on these types of underlyings helps ensure that volume will be robust enough to ensure relative ease when entering and exiting an options position. No matter the underlying, investors and traders should always ensure that volume is robust before deploying a position. This can be done by reviewing daily turnover as well as open interest. 

Moreover, some investors and traders may choose to trade the options of exchange-traded funds (ETFs) instead of single stocks, especially when choosing to sell options. This is the case because single stocks are subject to idiosyncratic risks (aka stock-specific risks or unsystematic risks) that can trigger high-magnitude moves in the underlying. In the case of short options positions, gap moves such as these can result in significant losses.

An ETF may also be subject to a high-magnitude move, but in comparison to single-stocks, this risk is theoretically reduced. This is largely due to the diversified nature of ETFs, which are composed of multiple stocks. As such, the diversified nature of an ETF theoretically helps buffer if from the impact of significant developments affecting any single company within its portfolio. However, it's important to note that both single stocks and ETFs are vulnerable to systematic risks. In the event of a broad-based market downturn, both can incur substantial losses. 

For all of the above reasons, it’s difficult to identify which stocks are the “best” for trading options, or even to say that single stocks are the best outlet for trading options. It all depends on the strategic approach, outlook, and risk appetite of the investor/trader in question. 

As outlined previously, it’s difficult to identify exactly what the “best stocks” are for options trading. The best underlyings for options trading will vary widely from trader to trader, based on his or her strategic approach, outlook, and risk profile.

To identify potential opportunities for trading options, investors and traders can use metrics such as Implied Volatility Rank (aka IV Rank or IVR). Additionally, options market participants may choose to monitor which underlyings possess the largest options volumes on a daily or monthly basis, as this may be an indicator of potential opportunity and ease of getting in and out of trades, as well. 

Market participants usually track a wide range of market data and information when trading options. Some of the specific data/information will depend on the strategy utilized by the investor/trader in question.

However, some of the primary things to look for when trading options are outlined below:

• Implied Volatility: Understanding the implied volatility of the underlying asset is essential for options trading. Elevated implied volatility can lead to higher magnitude price swings, which may increase the potential for profit, but also raises associated risk. Options traders often use historical volatility (past price movements) and implied volatility (market expectations of future volatility derived from options prices) to gauge sentiment in the financial markets. 

• Open Interest and Volume: These metrics indicate the activity level in particular options and can also be a signal of market sentiment. High volume and open interest generally mean that the option is more liquid and that it may be easier to execute trades at competitive prices.

• Option Greeks: These are metrics that describe how the price of an option is expected to change in response to some key market factors. The Greeks include: Delta (rate of change of option price with respect to the price of the underlying asset), Gamma (rate of change in Delta), Theta (time decay of options), Vega (sensitivity to volatility), and Rho (sensitivity to interest rate changes). A good understanding of the Greeks can help traders manage risk and construct more precise trading strategies.

• Expiration Dates: Options are time-sensitive instruments that lose value as they approach their expiration date. Choosing an expiration date is therefore often a crucial decision for an options position. Shorter expirations can be more sensitive to price movements in the underlying asset, whereas longer expirations allow for more time, but are generally associated with higher options premiums. 

• Strike Price: Selecting the appropriate strike price is another key strategic decision for options traders. The strike price(s) should align with the trader’s expectations for the underlying asset’s price movement and his/her risk tolerance, among other factors. 

• Economic Indicators and Market Events: Options traders should be aware of economic reports, earnings announcements, and other significant events that could affect positions in their portfolio. Market conditions can change rapidly, which is why options traders often monitor the market closely for impacting events. 

Liquidity in the options market is a critical factor that significantly influences trading strategies and outcomes. Higher liquidity is generally synonymous with a higher volume of trades and a larger number of active participants in the market. Robust trading volumes help ensure that there are always buyers and sellers available, which facilitates smoother executions at competitive prices. 

One of the direct benefits of high liquidity is a narrower bid-ask spread—the difference between the price at which buyers are willing to purchase options and the price at which sellers are willing to sell. A tighter bid-ask spread theoretically reduces the cost of trading and allows for smoother executions, which is particularly important in fast-moving markets.

Open interest, which is the total number of outstanding options contracts that have not been settled, is another important indicator in the options market. A high level of open interest generally indicates that there’s a healthy market with lots of activity and that it is easier to enter or exit positions without causing significant price shifts. Conversely, if open interest is low, or declining, that may be a signal of a weak environment for trade execution. 

Understanding and monitoring these factors—liquidity, volume, and open interest—are essential for options traders as they navigate through varying market conditions. This information should also assist investors and traders as they strive to identify and capitalize upon the most attractive opportunities in the options market.

The volatility concept, as it relates to options trading, is usually broken down into three distinct categories:

• historical volatility

• implied volatility

• future volatility

Historical volatility is the easiest to understand of the three terms listed above as it is observable. Every stock has a specific opening and closing price for each day it has traded. Therefore, a data scientist can compute the exact historical volatility (movement) of a stock over a defined period of time in history.

Implied volatility is the market price for volatility. One can look at the bid/ask of a particular option (symbol, strike, and duration) and observe at what price trades are being executed. This value represents the current market price for volatility in an option, often called implied volatility.

Of the three terms listed above, future volatility is of course the most difficult to understand.

Future volatility is the holy grail of options trading. Such a value involves estimating the future value of a stock, which is of course unknown. Hedge funds, banks, proprietary trading firms and the countless quantitative minds within them have spent innumerable sums of money trying to accurately (and consistently) forecast future volatility.

Obviously, the market players that most effectively estimate future volatility are likely some of the most profitable. However, as paradigm shifts can occur abruptly, there's no telling how long those forecasts will be effective and over what time horizon.

In order to identify opportunities where implied volatility is elevated or depressed, options market participants usually utilize a metric known as Implied Volatility Rank (aka IV Rank or IVR), or a similar metric.

Implied volatility rank is a statistic/measurement used when trading options, and reports how the current level of implied volatility in a given underlying compares to the last 52 weeks of historical data. IVR is expressed on a scale between 0-100, where 0 represents the low IV% print for the year, and 100 represents the high IV% print.

Option traders typically use IV Rank to assess whether implied volatility (IV) is high or low in a specific underlying based on the past year of implied volatility data. High levels of implied volatility may signal that an opportunity exists to sell options/volatility, while extremely low levels of implied volatility may signal that an opportunity exists to buy options/volatility.

Outside of liquidity and volatility, it’s important to note that “best” in the options world is typically found in hindsight - traders and investors must be comfortable with the sectors and stocks they’re trading, and have a strong plan for risk management and profit targets. Every trader has different account sizes and risk tolerances, so particular stocks may appeal to one trader more than another. Sticking where the liquidity is will make it easier to enter and exit trades, which is a logical focal point to start.