Question: Is it illegal to manipulate stock option trades in the market?
I have a friend who says what he does is not illegal, but it sounds questionable. He is making incredible money without the ups and downs that typically happen to most traders. He will buy a large position in a particular option like 500 contracts at .40. The bid will be at .40 and the ask will be at .50
Then he will try to sell them at .45. If there are no takers he will get rid of his offer at $.45. Then he will bid them at $.45 to make it appear like there is a bidder underneath. Then that order will be cancelled and he will put them back out on the offering for $.45. I thought it was spoofing, which is illegal, but this he says is not spoofing because the order is cancelled. Is this considered manipulation that is illegal?
Answer:
<<<Is it illegal to manipulate stock option trades in the market?>>>
It is my understanding that any attempt to manipulate the price of any securities, including options, is illegal, but I am not studied the law and I have no experience with it.
<<<I thought it was spoofing, which is illegal, but this he says is not spoofing because the order is cancelled.>>>
Here is a definition of spoofing:
"An illegal practice in which an investor with a long position on a security makes a buy order for that security and immediately cancels it without filling the order. Spoofing tends to increase the price of that security as other investors may then issue their own buy orders, which increases the appearance of demand. The first investor then closes his/her long position by selling the security at the new, higher price. Spoofing is a form of market manipulation."
Entering a buy order that is canceled is part of the definition of spoofing, so it is a contradiction to say that it is not spoofing because the buy order is canceled.
<<<Is this considered manipulation that is illegal?>>>
In my opinion it is, but I am not qualified to give to a definitive answer.
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As well as the problems some other answers have discussed, I will mention a couple more.
(1) The option cannot be illiquid or it would impossible to buy 500 contracts at the ask, much less the bid. The option cannot be too liquid or the spread for an option at that price would be $0.05 at most. If it was one of the penny increment options the spread would probably be less than $0.05.
(2) For the manipulation to work, (a) when you put in the sell order at $0.45 it will not drive the price down, (b) when you put in the buy order at $0.45 it will drive the price up and (c) when you put in the second order to sell at $0.45 it will not drive the price down.
There's a little problem in your friend's story:
"He will buy a large position in a particular option like 500 contracts at .40. The bid will be at .40 and the ask will be at .50"
That means that your friend is able to buy 500 contracts AT THE BID. Maybe you should first ask him how is able to do that....
Whenever someone tells you some "I am more clever than the market" story, it is almost always false. This particular story is so false that it even has some contradictions in the story itself.
In fact, if you were able to buy 500 contracts at the bid and then offer them at a discount to the ask, you could make money. You would be a market maker offering better prices than the other market makers (which may or may not be smart).
I used to evaluate automatic electronic trading systems for hedge fund use. Nearly all of them are bullshit, but some are more obvious bullshit than others. One of the top ten errors that people make is that they assume that they have the ability to be market makers with unlimited liquidity. There is no question that if you are a market maker with unlimited liquidity you can make an infinite amount of money. Of course, my favorite thing to do with such systems is to just tweek them to really take advantage of the error in the system. Your friend has come up with a clumsy lie suggesting that he has such a system. Boring...
does not appear illegal. after all it is a valid bid and he might wind up owning them. To my knowledge which is not all that great, that tactic has been used of over 100 years in the market to test the market.
He's not effecting any change..
He's just taking advantage of Volatility, or a big players manipulation..
I doubt very much your friend is actually making great amounts of money. In fact he may be losing money, because the system you describe cannot be executed at all if the value of the stock goes contrary to his bet. If he bought a call option and the stock goes down (and he cannot CONTROL the stock price) then both bid and ask go down and he can only sell it at a lower price, in other words at a LOSS. What your friend is doing is NOT market manipulation, but rather is a hare-brained system or scheme destined to make him a loser, because of the cost of the spread and the commissions going in and out.