The Rally Finally Arrives

Oil and metal options should provide good trades over the next month.
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This column was originally published on RealMoney on May 23 at 11:36 a.m. EDT. It's being republished as a bonus for readers.

The big snapback rally has finally arrived, just as everyone predicted. Now the question is how long it will last. The biggest gainers are in the energy and basic materials stocks, which are the ones that had been hardest hit in the last two weeks. The most active options are basically a repetition of

yesterday's roundup but the stocks are all up 5% today instead of down 7%.

Leading the most active option list is the

Energy Select SPDR

(XLE) - Get Report

, which is seeing heavy put volume. The most active strikes are the June $58 and June $54 puts, which have traded over 38,000 and 21,000 contracts respectively. The September $53 puts have traded over 27,000 contracts. In all cases, prior open interest was sufficient to cover, but given that volume is already running three times ahead of the daily average, I'd venture that much of this will translate into new open interest.

One of the oil names seeing big option volume is


(VLO) - Get Report

. The June $55 through $65 strikes (they are $2.50 increments) all have traded over 1,500 contracts each thus far. Somewhat surprising is that the ITM $55, which had the smallest prior open interest of just 7,000 contracts, is the most active, with mroe than 2,000 contracts traded. It may be some overwriting, as people use this bounce to balance their positions a bit and get a little cushion to reassess the situation.

That brings to mind a point raised on Adam Warner's

Web site

regarding whether it's wise to sell options during a period of increased volatility. This is especially an issue when it is a whole group or sector that is experiencing an increase in volatility, as opposed to an individual name that may have a specific impending event such as earnings or legal issues. It probably makes more sense to be a net buyer of options when confronted with a "cyclical" upturn in volatility.

Such has been the case for options on the publicly traded exchanges, such as the

Chicago Mercantile Exchange

(CME) - Get Report

and the

Intercontinental Exchange

(ICE) - Get Report

. Since the wave of consolidation hit early in the year, it's been better to have been net long options in the group as speculation kept the stocks in motion sufficiently to overcome time decay. But now that we are starting to see who is partnering with whom and how much they are paying, I think one can finally start being a net seller, especially in the

NYSE Group



Nasdaq Stock Market



But make sure you keep the numbers straight -- that is, avoid naked positions -- because as yesterday's $10 or 15% decline in ICE demonstrates, there is still some momentum money sloshing around in the sector, which can cause sharp price movement.

I believe for at least the next month, oil and metals are areas in which buying options and having a positive gamma will allow one to fade sharp price moves, which will be a better approach then sitting on your heels working time decay.

Steven Smith writes regularly for In keeping with TSC's editorial policy, he doesn't own or short individual stocks. He also doesn't invest in hedge funds or other private investment partnerships. He was a seatholding member of the Chicago Board of Trade (CBOT) and the Chicago Board Options Exchange (CBOE) from May 1989 to August 1995. During that six-year period, he traded multiple markets for his own personal account and acted as an executing broker for third-party accounts. He appreciates your feedback;

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