An increase in the trading of a stock's options over the normal daily volume is often a precursor of movement by the stock itself. This is especially true in advance of news items, such as earnings reports or takeovers.

If there is unusually high volume in CALLS, then we look for a spot to buy the stock; if there is unusually high volume in PUTS, then the stock may be either a potential buy or a potential (short) sale. The reason that heavy put volume may be interpreted as either bullish or bearish has to do with the fact that, if insiders are buying calls, it may force market makers to trade puts as a hedge. Thus a bullish situation could conceivably have heavy option volume in both the puts and the calls.

Note that we said buy the "stock", but in reality many traders prefer to buy the short-term, in-the-money options. These options have the least time value premium and will most closely mirror the movement of the underlying stock. You would buy calls for "buy stock" recommendations, and you would buy puts whenever we have a "sell stock" recommendation. So, wherever we say "stock" in this report, you may want to substitute "in-the-money option" as you are reading it. We generally state which option we feel is the best one to buy when the initial recommendation is made.

This service highlights situations in which a stock's options trade in volume at least double the "normal" amount. It is intended for serious traders who are involved on a daily basis, and have the discipline to exit losing trades quickly.

We do our best to eliminate situations in which the option volume is increased by spreads or by covered writes in a particular series, for these patterns are NOT at all indicative of an impending stock move, but obviously not all of these situations can be eliminated.

Note: this is NOT a contrary indicator. If there is excessively high activity in the calls, we will respect it and look to buy the stock. Similarly, if there is high volume in the puts, we look to sell the stock.

The Daily Volume Alert Fax layout follows this pattern:

1) new recommendations,
2) a recap of what happened with yesterday's recommendations (if there were any),
3) a summary of all current open positions with updated stops,
4) the reading of our short-term trading oscillator
5) a list of ALL stocks with significant option volume in yesterday's trading, whether we recommended them or not, and
6) a rather short list of stocks whose options are extremely expensive.

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NEW RECOMMENDATIONS
As stated before, there is normally zero or one new recommendation daily. ON EACH DAY'S FAX, THERE ARE SPECIFIC ENTRY AND EXIT POINTS LISTED; EACH TRADER IS RESPONSIBLE FOR ADHERING TO HIS OWN EXIT POINTS, ALTHOUGH WE ENCOURAGE YOU TO ADHERE TO OUR TIGHT STOPS.

We often wait before taking a position until the stock exceeds the previous day's trading range. This prevents taking positions where there is no follow-through. For example, on buy recommendations, we often won't actually buy the stock until it exceeds the previous day's high. We list the various stocks, symbols, and buy or sell points. If a stock is traded over-the-counter, its option symbol is included next to the stock symbol. The recommendation may be something like

Buy Advanced Micro Devices (AMD) at 25.50 or higher.

This means that we won't buy AMD until it trades UP to 25.50 or higher. Presumably, 25.50 is an eighth of a point over yesterday's high. On the downside, similar measures apply. For example,

Sell Salomon Brothers (SB) at 49.38 or lower.

This means that we won't sell the stock until it trades at 49-3/8 or lower. YOU MAY, OF COURSE, WANT TO IMPLEMENT THE RECOMMENDATIONS WITH OPTIONS INSTEAD OF STOCK. THESE BUY AND SELL RECOMMENDATIONS ARE MERELY USING THE STOCK AS A REFERENCE POINT.

PREVIOUS HOLDINGS
We also list all of our currently open positions daily, with a stop action listed for each one. The stops may be ACTUAL stops -- where an order is to be placed on the trading floor, CLOSING stops -- where one would sell out his position if the stocks closes at or through the stop price, or MENTAL (intraday) stops -- where one would analyze the situation if the stock hits that stock price at any time during the trading day; if there is a large offering in the stock at that time, or if it looks weak, then one would stop himself out; however, if there is a good bid or if the stock trades right back up, then he would not sell via the MENTAL stop.

THE OSCILLATOR
We occasionally make OEX recommendations, based upon our short-term overbought/oversold oscillator. Each day's oscillator number is printed in the fax newsletter, in a box surrounded by asterisks. If the oscillator rises to +200 or higher, the market is overbought. We then look to short the market (i.e., buy OEX puts) when it subsequently falls back below +200. Conversely, if the oscillator is below -200, then the market is oversold, and we will buy calls when it eventually rises back above -200. The oscillator is calculated with the following formula: Today's Oscillator = 90% of Yesterday's Oscillator + 10% of (Today's Advances - Today's Declines)

THE DATA TABLE
Next, a data table is printed daily. In the data table, we list ALL of the stocks that had significant speculative option volume in the previous day's trading AND that passed our screens -- whether we are recommending them or not. This list is of interest to many subscribers in that a particular stock that you are following may be on this list, and it also provides additional trading opportunities for those traders who want them.

On this data list, several statistics are displayed: the average volume of all options traded is shown, as well as the PREVIOUS DAY'S total volume of all options. This figure includes both puts and calls. Next to that, the CALL and PUT volume of the previous day is shown. If the put volume is insignificant in comparison to the total volume, then we can look for a spot to BUY the stock. However, if the put volume is 40% or more of the total volume, it is possible that the impending move by the stock will be to the DOWNSIDE. If there is heavy put volume, experience shows that the stock should be watched for a breakout either to the upside OR the downside. Thus, heavy put volume is a two-edged sword.

Also, the amount that the stock (or index) moved on the previous day is shown as well. If the stock has already moved a great distance in the projected direction, then there is a good chance that the "information" is too public and the stock should not be bought (or sold, if puts were active). We often screen out any stocks that have moved too far.

HIGH IMPLIED VOLATILITY
In certain cases, EXPENSIVE options can highlight situations that are significant, when option VOLUME cannot. For example, consider a situation in which traders are trying to buy calls in advance of corporate news, but the market makers won't actually SELL the traders any calls. What happens is that not many options actually trade, but the options get very expensive. That is, the options have a very high implied volatility. This may be a clue for us as well. In some cases, there is a dual confirmation between in creased option VOLUME and increased VOLATILITY. These are often the "hottest" situations and may be especially attractive.

Another situation that may be highlighted by high implied volatility: ones where a news item is about to send the stock much higher or lower, but no one knows which direction. These situations might include impending jury verdicts in lawsuits or rulings by the FDA, for example. We won't normally trade these, but they are a warning that a big move is coming in such a stock.

WHAT SHOULD YOU BUY?
On any given day, there will usually be zero or 1 stocks recommended. You have to decide how you are going to participate. These are often short-term trades, so sometimes it is better to buy the stock itself rather than the options, especially since high-volume options may tend to be on the "overpriced" side. Also, if you are not going to participate in every trade (we normally have less than 8 open positions at any one time), then you should uniformly buy every other one, or every third one, for example.

The Volume Alert Service does give exit points, but traders should realize that the moves may be very short-term in nature, so that profits should be taken rather quickly, or stops should be kept very close. USE A TIGHT STOP OF 3/4 POINT TO ONE POINT ON EACH STOCK. A general rule of thumb is that if the stock exceeds the previous day's high, so that you buy it, but then subsequently trades 3/4 point to one point lower, you should probably sell it and move on to the next situation. The reason that we recommend such a close mental stop is that, if the option volume is really foretelling a newsworthy event, then the stock should be able to continue on after exceeding the previous day's highs. If it can not, then something is not right.

Finally, we are a proponent of taking partial profits if they accrue, and then moving the stop up as the stock advances (i.e., we use a TRAILING stop). Again, these instructions are explicitly spelled out in the daily fax whenever the situations arise.

ORDER ENTRY
If you are buying options, then we suggest that you DO NOT use stop orders, as these are often filled at unfavorable prices. Rather, option buyers must watch the stock trade and, if it hits its buy or sell price, then place an appropriate option order at that time. This may be a market order if the option is liquid, but might be a limit order if it is not. If you are buying stock, then you can use STOP orders to ENTER AND EXIT these positions. For example, if AMD is currently 25 and the Volume Alert Service tells you to buy it if it trades at 25.50 or higher, then you can place a BUY STOP order at a price of 25.50 (orders to buy stock ABOVE the current market price must be placed as STOP orders, otherwise you will be filled at the current price, which is NOT what you want to happen).

The above examples all refer to bullish situations in which the stocks are to be bought. In bearish (increased put volume) situations, the same inferences can be made with respect to the stock's decline: for example, waiting for the stock to drop through the previous day's lows before entering the position.