Using Nadex Spreads to Trade Volatility

Using Nadex Spreads to Trade Volatility

In today’s uncertain economic times, the markets can react violently on any piece of news.

Using Nadex Spreads to Trade Volatility
Using Nadex Spreads to Trade Volatility Getty Images

On Thursday, June 1,  the markets were traveling sideways before the Opening Bell. All of the US Equity Indices were trading at all-time highs. President Trump was due to make a speech about his decision to exit the Paris Climate Accords. Nonfarm Payroll reports were coming out on Friday.

Would the markets continue to rally and create new highs, or would it give back some of it’s recent gains?

Before the Opening Bell, the US Tech 100 Index was traveling at 5800. A nice round even number.

Using Nadex Spreads to Trade Volatility

The decision was made to take advantage of this price level and hedge the market to the upside and to the downside. Two Daily Nadex Spread trades were placed at 7:42am EDT:

BUY US Tech 100 (Jun) 5800.0 – 5840.0 (4:15PM) – This is a 400 Tick spread. Each Tick is worth $1.00 per contract traded.
Entry Price: 5806.6
Maximum Risk: $66   Maximum Reward: $337 per contract traded

SELL US Tech 100 (Jun) 5760.0 – 5800.0 (4:15PM) – This is a 400 Tick spread. Each Tick is worth $1.00 per contract traded.
Entry Price: 5792.6
Maximum Risk: $74   Maximum Reward: $326 per contract traded

So, now the market is bracketed. If there is a large move to the upside or downside, one trade gains while the other side loses. But remember, the maximum risk is capped tightly on both trades.

Using Nadex Spreads to Trade Volatility

By 9:45 The BUY Leg was up 74 ticks, which was exactly the maximum risk on the SELL trade. The decision was made to take profit. Now the trade is essentially a free trade.

Twenty minutes after the Opening Bell at 9:30, it’s not uncommon for the initial momentum in the market to reverse direction. In this example, that’s exactly what happened.

Using Nadex Spreads to Trade Volatility

The market moved all the way down to near 5780. The BUY leg had already captured a 74 tick profit, and the SELL leg was up just over 100 ticks by 10:15 am.

With 6 hours left in the trade, what should I do? Take profit and call it a day for 170+ ticks, or just let it ride a little further to see if there was more room to run to the downside?

This trade was taken in a demo account, so the decision was made to let the trade run for a while. The market started grinding its way back upward, gradually erasing the 100 tick gain on the SELL trade. The US Tech 100 Index was now approaching two key resistance targets – the Bollinger Band Middle Moving Average and the Daily Pivot Point.  If these resistance levels held, then I would continue to let the trade run, expecting further movement to the downside. If the resistance levels were breached, then I would exit the trade.

Using Nadex Spreads to Trade Volatility

Once the Bollinger Band Middle Moving Average and Daily Pivot Point was breached, the SELL Trade was exited for a 2 Tick loss.

Netting out the trade, the 74 tick gain, less a 2 tick loss resulted in a 72 tick gain, or $72 per contract traded (exchange fees not included).

What would have happened if both trades would have been held until the 4:15PM expiry?

The US Tech 100 Index rallied on the Trump Speech at 3:30pm  and settled at 5822.2. If both trades had been held until expiry, then the BUY leg would have resulted in a 156 tick gain ($156 per contract traded). The SELL trade would have resulted in the maximum 74 ($74) tick loss. If held until expiry these trades would have netted an $82 per contract  gain, less exchange fees.

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Nadex binary options and spreads can be volatile and investors risk losing their investment on any given transaction. However, the limited-risk nature of Nadex contracts ensures investors cannot lose more than the cost to enter the transaction. Nadex is subject to U.S. regulatory oversight by the CFTC.