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Momentum Trading Strategies: Technical Analysis and Options

Momentum traders are the guerilla warriors of trading. In and out before you know it, these skilled tacticians rely on technical analysis and quick reaction time to follow market trends and capture high-speed breakouts.

Justin Nugent
This article was last updated on 03/31/2023.

Momentum trading, technical analysis, and options: The three tools options traders can use to try to capitalize on market swings. Momentum traders follow trends in search of timelyprice action. Technical analysis gives traders the signals to identify continuations and reversals in trend, and options give traders leverage with defined risk — rewarding them for being directionally right about those timely stock market moves. Together, this trading trinity can help you navigate even the toughest terrain.

The job of a momentum trader isn’t to judge the fundamentals, valuation, or long-term outlook of the company. After all, they’ll be in and out of the trade long before those factors begin to matter. But if momentum traders aren’t using fundamentals to find the right buying opportunities, how are they finding potential targets? The answer: technical analysis.

How to Trade Momentum with Technical Analysis

“Buy when there’s blood in the streets.”, “Be greedy when others are fearful.”, “Buy the dip.” You hear these contrarian phrases all the time, and if you’re a long-term investor, this may be great advice. But for momentum traders, the ideal strategy is to follow the trend, not fight it. In the heat of battle, how can you know the difference between a buying opportunity and a bleak outlook? Two words: technical analysis.

Momentum trading strategies seek to capitalize on stock market trends, often identified using various technical analysis tactics. What separates momentum traders from the rest of the pack? Momentum traders focus on the velocity of stock price changes — not on what those prices are, or on what those prices should be. That’s where technical analysis comes into play.

Technical analysis is the analysis of charts, trends, patterns, and market data, used to predict the future behavior of a stock.

For example, when researching a stock, a fundamental analystmay focus on metrics like the price-to-earnings ratio, RoE, free cash flow, and more. A momentum trader doesn’t care about any of those metrics. Momentum traders must still perform research on a potential trade, but their research will be focused on technical metrics that often have more to do with the chart than the underlying business. Things like moving averages, volume, flatlines, and trendlines.

Fundamental analysis has its place in long-term investing, but when it comes to predicting short-term price action, technical analysis is king.

To put it simply, technical analysis helps momentum traders determine whether a trend is just starting or running out of gas. It also helps traders determine where the most opportune areas of entry and exit are. Market Rebellion employs teams of Chartered Market Technicians to help craft professional momentum trades — but you don’t need to become a CMT to add technical analysis to your tool belt. Start by getting familiar with these eight terms.

Technical Terms to Know

Support:
A price level where a downtrend can be expected to pause due to a concentration of demand or buying interest. As the price of a stock drops, demand for the shares increases, thus forming the support line.
Resistance:
The opposite of support — a price level where an uptrend can be expected to pause due to a concentration of demand or selling interest. As the price of a stock rallies, demand for the shares decreases, thus forming the resistance line.
Trendline:
A straight line connecting a series of pivot lows or pivot highs to track the general direction of a stock’s price.
Flatline:
A horizontal line drawn through two or more closing prices (this can be daily, weekly, or even 1-minute closes) in an effort to determine potential levels of support and resistance.
Stop:
A price level at which the trade is closed, or “stops out”. Can be used to take profit or to prevent further losses.
Trigger:
A price level where an asset should be purchased in order to capitalize on a potential technical breakout or breakdown.
Relative Strength Index:
One of the most common momentum trading indicators, used to measure recent price movements in order to determine whether an asset is overbought (typically over 70) or oversold (typically under 30).
Average True Range (ATR):
An average of the total difference between the low and high of an asset’s price over a specific time period. Used to measure the remaining movement potential of a security.

Technical analysis might feelcomplicated, but as long as you have a solid understanding of the basics (and a good sense of discipline!), you can use the above tools to hunt breakouts and breakdowns like a true momentum trader. Let’s look at an example of how you might use these technical tools to craft a plan designed to trade the trend.

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How to Use Technical Analysis to Trade Momentum

Imagine stock $XYZ has traded above $100 for years. We’ve seen the chart, and the stock has consistently bounced whenever it reached the $100 dollar level. However, recently a string of bad news and bearish macro events has driven the price of the stock closer and closer to the $100 dollar level, where it sits today.

The first question: Should you dash in and buy it just because $100 is a level of support?

Answer: No! Smart momentum traders follow what the market is doing — not what they think the market should do.

If the stock gets a firm bounce here, then you might think about buying the bounce. But instead, as you watch the price action unfold, you notice the opposite is happening. The bearish momentum is too much for the bulls to handle, leading stock $XYZ to break below the $100 level for the first time in years. By now, your momentum trading alarm should be ringing.

With a key level of support broken, you begin drafting up your trading plan. You check the RSI: It reads 40. Not great, but not yet oversold. You check the average true range and discover that today’s movement is small relative to its typical ATR. You zoom out, searching for the next lowest point of support. You spot it — the $85 level — a previous all-time high, and the last place the stock consolidated before breaking out above $100.

Pulling together all of your research, you decide it’s time to get in on a bearish trade. But the job isn’t over yet. You’ve planned your opening, and now you need to plan your close. Just like any good fire escape plan, this trade needs two possible exits. The first exit is your Plan A: a profit target. That’s where you’ll get out if the price moves in your direction. In this case, you plan to close the trade at the last known area of support before $100, the $85 level. But you also need Plan B: a stop-loss level in the underlying stock’s price. That’s where you’ll exit if things don’tgo your way. For your thesis, you want to see the previous support ($100) become resistance. If stock $XYZ trades back above $100, you know that’s when you’ll throw in the towel.

The steps we just went through, from monitoring the stock’s price to checking the RSI and ATR, to picking an entry and multiple exits, are the foundations of how a momentum trading plan is crafted. There’s plenty of room for nuance. You could use other indicators, you could use relative comparisons (charging trends against the market or even specific sectors), the possibilities with technical analysis are endless. But the most important thing is that you establish a trading plan, and you follow through with it.

Technical analysis is a great way to capture the short-term price movement of a particular stock. But if you’re trading it using shares, you’re going to have to put a lot of money on the line, and your potential profit is going to be limited. We believe that the best way to trade momentum is with options.

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How to Trade Momentum With Options

Using the power of options leverage, you can make the most of these directional predictions, all while defining your risk with an amount of capital you’re comfortable trading.

Options Terms to Know

Calls and Puts:
The building blocks on which all options strategies are built.
  • A call is a contract between a buyer and a seller that gives the owner the right, but not the obligation, to purchase a stock at a certain price, until a specific expiration date. Call buyers believe that the underlying asset will rise prior to the expiration date.
  • A put is a contract between a buyer and a seller that gives the owner the right, but not the obligation, to sell a stock at a certain price, until a specific expiration date. Put buyers believe that the underlying asset will decline prior to the expiration date.
Spreads:
An options strategy that involves more than one contract (or leg), in which at least one contract is long and one is short. Spreads are often used to mitigate risk, or reduce the total cost of a position.
The Greeks:
A set of metrics that identify the sensitivity of an option’s premium according to factors like the price of the underlying, time, and volatility.
  • Delta:The rate of change in an option’s premium per $1 change in the underlying asset. Calls have positive delta, puts have negative delta.
  • Gamma:The rate of change in an option’s delta according to each $1 move in the underlying asset’s price.
  • Vega:The rate of change in an option’s price per one-point change in implied volatility. Higher vega is equivalent to higher sensitivity to volatility.
  • Theta:The rate of change in an option’s price over the passage of time. Long options have negative theta values, meaning that they decay over time. Short options have positive theta values, meaning that they expand over time.
Implied Volatility:
A measure of an individual option’s predicted future movement.
Volume:
The number of contracts traded during a specified time frame, typically one day.
Open Interest:
The total number of outstanding contracts (active positions) held at any given time. These are contracts that have been opened, but not closed.
Slippage:
The difference between the expected price of an order and the price that the trade is filled at.
IV Rank:
A metric of tracking an asset’s implied volatility against itself historically over a defined time period.
Volatility Skew:
A measure of the difference in volatility between in-the-money options, at-the-money-options, and out-of-the-money-options.
  • Put/Call Skew: A measure of the difference in volatility between put and call options within the same options chain.
Roll:
Closing an options contract while simultaneously purchasing a contract in the same asset.
  • Hard Roll: A type of roll in which the trader closes an option contract for a profit, and simultaneously uses a portion of that profit to open a new position in a lower delta, out-of-the-money option.

Options provide a trader leverage in exchange for a shortened time horizon. To put it simply, by using a single option contract, a trader can achieve profits equivalent to owning 100 shares of stock, without having to put forth 100 shares worth of capital.

What’s the catch? Shares can be held forever. Options have an expiration date. But as momentum traders, that’s okay with us. We love the short-term. That’s our plan anyway. We don’t want to be in this trade for any longer than we have to. And if we decide that we need more time on a trade, we can always roll the option (more on that later).

Options also give a trader a larger proverbial toolbox. Traders can combine options into many different types of spreads in order to capitalize on any type of predicted asset movement.

While long shares are a one-way street (buy if you think the equity will rise), options allow a trader to exploit large moves, small moves, price stagnation, increases and decreases in implied volatility, time-decay and more. Now that you understand the key terms and the basic elements of what make options so appealing to momentum traders, it’s time to get into the specific elements of how we trade momentum with options.

Now that you know how our momentum trading strategy works, let’s look at how this technical analysis driven momentum trading strategy has performed in practice, using real life option trades from three of Market Rebellion’s premier momentum trading services.

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Three Real Life Momentum Trading Examples

TNT Options, Example #1: Bearish Option Trade in SMH

TNT Optionsregularly provides a variety of flatlines, technical levels, and entry triggers for stocks that are sitting on a knife’s edge. These are stocks that look ready to make a big move — up or down, depending on which technical level they break away from first. During premarket trading on October 11th, 2022 the VanEck Semiconductor ETF (SMH) was identified.

The Trade Idea

  • If SMH breaks below $179.93 (trigger), consider using near-the-money put options to capitalize on the bearish breakdown
    • If SMH breaks above $183.92, consider using near-the-money call options to capitalize on the bullish breakout.
  • If SMH invalidates the trigger (crosses back over) or the option decays to 30% of its value, consider closing the position (stop-loss).
  • Consider taking profit by either rolling or closing the trade at the corresponding levels.
  • Though this example does not list a specific expiration date, TNT Options frequently deploys EOW expirations (meaning options that expire at the end of the week).

At the open, the SMH plunged below the $179.93 trigger level with force — a sign that it was time to enter the trade. When trading weekly options, we like to stick to at-the-money strike prices. Those options typically give traders a deltaof 0.50 — meaning if the stock moves $1.00 in their direction, the ATM option will move 50 cents (all else being equal). In this case, that would have been the $180 or the $179 put.

The SMH would go on to break down further over the following two days — something that TNT Options subscribers were aware of thanks to rapid-fire updates from Chief Options Strategist Ryan Mastro and the TNT Options team.

The first update, provided in the minutes following the open.

The second update, provided late in the day on the 11th.

The third update, provided at the market open on 10/13.

With each move lower came another update — and with each update, a reminder for traders to take at least some profit as the value of the options continued to climb. Whether through a roll, a trim, a spread, or an outright sale, trading profits come as easy as they go — which is why it pays to stay disciplined.

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Rebel Weekly, Example #2: 5DTE Puts in AMD

The Trade Idea

  • If AMD breaks below $83.70 (trigger), consider buying the 5DTE $83 puts for roughly $1.65.
  • If AMD breaks back below the trigger or the option decays to 30% of its value, consider closing the position (stop-loss).
  • Levels to consider taking profit: $82.78, $81.89, $80.89, $79.33.

This bearish trade idea in Advanced Micro Devices (AMD) was spurred by the U.S. government’s sudden decision to ban exports of high-tech semiconductors to China, a key consumer of AMD’s graphics cards. This meant a recalibration of AMD’s earnings potential — and consequently, of the stock price (seen below).

On October 12th, 2022 AMD held firm to the entry level. But on the 13th, the selling pressure was too much. AMD opened -4% lower — a confident break below our entry level, and two of our take-profit levels. It was time to open the trade to play for a technical breakdown. Within an hour of the open, bears had already pushed shares of AMD below the third and fourth target — causing a swift increase for those short-dated put options.

Though the price of AMD had only dropped by -6.5%, the associated $83 strike options had multiplied in value from $1.65 upon the creation of the original trade idea to $6.35 at the close of the following day — a powerful example of technical traders lean on the leverage of options to take advantage of high-speed breakdowns and breakouts.

Rebel Pit, Example #3: 0DTE Calls in COST

Original trade idea:

Rebel Pitis Market Rebellion’s ultimate virtual momentum trading room built for active traders. Armed with real-time technical analysis and this Cosco (COST) trade idea devised by Options Analyst Greg McDermott, Rebel Pit traders were alerted to these $532.50 strike call options set to expire at the end of the session.

To see how 0DTE options trading works in practice, let’s dissect this idea from September 9th, 2022 targeting a bullish breakout in Costco (COST).

The Trade Idea

  • If COST breaks above $533.03 (trigger), consider buying the 0DTE $532.50 calls for roughly $2.50.
    • Using slightly-ITM strike prices when trading these 0DTE options is a common theme inside the Rebel Pit. The intention: To negate theta decay as much as possible while still gaining exposure to fast-paced price moves.
  • If COST falls back below the trigger or the option decays to 50% of its value, close the position (stop-loss).
  • If COST breaks above $534.84, consider taking profit. There are multiple ways to do this:
    • Sell some or all of the options outright (Close the option)
    • Sell a different call against the pre-existing option at a higher strike (Spread the option)
    • Sell the call and simultaneously buy a cheaper, further from the money call (Roll the option)
  • If COST breaks above $537.83, repeat the above step by either rolling, spreading, or closing the option.

Shares of Costco (COST) from 12:20 PM EST to 3:55 PM EST. Source: TradingView

When this trade idea in Costco was published, the stock was trading at $529.12. After a few hours of chopping around, shares of COST stepped on the gas — breaking out decisively above the trigger level ($533.03) at 12:50PM EST. Within just 25 minutes, Costco had broken above the first profit target level ($534.84). A $1.81 dollar move on an ITM 0DTE option represents an added intrinsic value of $181 dollars, plus some additional extrinsic value. For many traders, the story ends here. They close the trade entirely and move on to the next one.

However, for traders who chose to hold on a little longer, the next target level to watch became $537.83 — and the new stop-loss became the old line of resistance ($534.84). Other than the shifting target zone, the trading plan remains the same: traders want to see the support hold as shares of the stock rally through the upper level.

In this case, shares of COST successfully tested the red support level ($534.84) without breaking below. However, COST failed to break abovethe next level of resistance after multiple attempts — failing directly at the line of resistance back to back, three times. When a stock repeatedly tries and fails to break above a resistance level, it’s a sign that the stock has run out of momentum. In those instances, where the momentum has clearly left the building, especially with 0DTE options, we close the trade.

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Momentum trading canbe a fruitful endeavor — but doing it right takes skill, discipline, and knowledge. Sometimes it pays to get a little help along the way. That’s what we provide at Market Rebellion. Our hand-picked team of chartered market technicians, professional options educators, and former floor traders have made it their mission to demystify momentum trading. Whether you’re just looking to dip your toe in with a couple of trades a week, or you’re looking to go all-in with several trades a day, Market Rebellion has turnkey momentum trading solutions designed to fit your needs.

TNT Options

TNT Options provides an actionable trade idea PLUS triggers and technical levels on a multitude of popular stocks and ETFs each week. Subscribers get access to weekly closed-door webinars led by Market Rebellion’s Chief Options Strategist, CMT Ryan Mastro, where he breaks down the state of the market LIVE.

Rebel Weekly

Rebel Weekly provides two weekly-expiration trade ideas per week, designed to make exploiting breakouts a breeze, with bullish and bearish positions. Every trade is complete with entry levels, targets, and exit levels. Powerful but palatable, Rebel Weekly is a candid, straightforward take on trading momentum with options.

Rebel Pit

Rebel Pit is for traders who are ready for an immersive, fast-paced experience. Inside the pit, a team of ex-floor traders hunt for potential breakouts around the clock, delivering Pitizens multiple trade ideas every day in real-time, and then going LIVE from 9am-11am to break it down and answer member questions.

The Bottom Line: Options are incredibly versatile tools. By mastering options trading, you can make essentially any stock market prediction you can dream up. You can bet on price stagnation, volatility, outlandish price increases and decreases, and more. At Market Rebellion, our goal is to make smart trades that account for things like technical analysis, historical data, and a variety of options strategies. We believe that options are like tools: There’s a tool for every job, and the more tools you have in your toolkit, the more jobs you can do… You just have to know how to use them.

If you’re ready to start learning how to master momentum with options, then tell us a little bit more about yourself. We’ll help you develop a personalized plan to help you reach your trading goals. Or, if you can’t wait to get started trading momentum, skip the line, and sign up for TNT Options or Rebel Weekly today using the quick checkout buttons below!

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