TRADING THE ODDS

In full compliance to historical probabilities and odds (see SPY’s Option Expiration Seasonalities), the SPY posted another down day on option expiration, on a back-to-back session to Thursday’s serious down-day (-1.74%). In addition, trading lower (than the previous session’s close) at the start of the final hour of option expiration’s session (see my Twitter Feed), (compliant to historical odds) the SPY was not able to recoup more than +0.50% of it’s intraday losses and couldn’t turn an intraday loss into a gain.

Table I below shows the SPY‘s performance (since 01/01/1990) on thoses sessions immediately following option expiration (in this event the session on Monday, August 23, 2010) assumed one went long on close …

• Strat. #1: of a(ny) option expiration session,
• Strat. #2: of a(ny) option expiration session when the SPY closed lower ,
• Strat. #3: of a(ny) option expiration session when the SPY closed lower on a back-to-back session (two consecutive lower closes),
• Strat. #4: of a(ny) option expiration session when the SPY closed lower on a back-to-back session (two consecutive lower closes), but reduced it’s losses on option expiration (a smaller loss than the one of the previous session).

All four setups were triggered on close of Friday, August 20, 2010.

There seems to be something special with those session at and/or around option expiration. Although at-any-time historical probabilities show a positive (short-term mean-reversion) tendency on a session immediately following a serious down day (e.g. SPY lost at least -1.50%) and/or following two consecutive down-days, not so on and immediately following option expiration. Long-term probabilities (winning percentage) and odds (expectancy) are (partly significantly) tilt in favor of another (a third) lower close, but at least most recent occurrences show a remarkable positive tendency.

Table II below shows the most recent twenty historical occurrences (the SPY‘s performance on a session immediately following option expiration) and their respective returns, assumed one went long on close of an option expiration session when the SPY closed lower (Strat. #2):

With respect to setup #2, the SPY closed higher on all of the most recent nine occurrences, and higher on 16 out of the last twenty occurrences, with thirteen out of those sixteen gains exceeding +0.50%.

Although long-term probabilities and odds are tilt in favor of a potential third lower close on Monday’s session, and not taking into account volume and/or market breadth data but closing prices alone, time-weigthed (most recent) probabilities and odds favour a positive outcome (a higher close) on Monday, August 23,2010.

Successful trading,
Frank

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Disclaimer: No position in the securities mentioned in this post at time of writing.

Remarks: Due to their conceptual scope – and if not explicitely stated otherwise -, all models/setups/strategies do not account for slippage, fees and transaction costs, do not account for return on cash, do not use position sizing (e.g. Kelly, optimal f) – they’re always ‘all in‘ -, do not use leverage (e.g. leveraged ETFs) - but a marginable account is mandatory -, do not utilize any kind of abnormal market filter (e.g. during market phases with extremely elevated volatility) , do not use intraday buy/sell stops (end-of-day prices only), and models/setups/strategies are not ‘adaptive‘ (do not adjust to the ongoing changes in market conditions like bull and bear markets).

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The information on this site is provided for statistical and informational purposes only. Nothing herein should be interpreted or regarded as personalized investment advice or to state or imply that past results are an indication of future performance. The author of this website is not a licensed financial advisor and will not accept liability for any loss or damage, including without limitation to, any loss of profit, which may arise directly or indirectly from use of or reliance on the content of this website(s). Under no circumstances does this information represent an advice or recommendation to buy, sell or hold any security.

Ahead of Friday’s option expiration the SPY (S&P 500 SPDR.) posted a serious down-day, losing -1.74% on the close.

Table I below shows the SPY‘s performance (since 01/01/1990) on option expiration assumed one went long on close …

• Strat. #1: of a(ny) session immediately preceding option expiration,
• Strat. #2: of a(ny) session when the SPY had lost at least -1.50%,
• Strat. #3: of a session when the SPY had lost at least -1.50% immediately preceding option expiration (like on Thursday, August 19, 2010).

Table II below shows all historical occurrences (the SPY‘s performance on option expiration) and their respetive returns, assumed one went long on close of a session when the SPY had lost at least -1.50% immediately preceding option expiration (Strat. #3):

From my perspective a favorable mean-reversion tendency on option expiration looks quite different (in contrast to the SPY‘s overall mean-reversion tendency after posting a down-day of that magnitude, see Strat. #2). On almost two out of every three (11 out of 17) occurrences (Strat. #3), the SPY posted another down-day on option expiration, and it is a single occurrence on 11/21/2008 (+5.39%) only which turns the compound return and profit factor into a positive number.

Option expiration – from a statistical and historical perspective -  seems to be a session where generally a long trade is a trade against the odds:  although the percentage of winning trades is slightly positive (51.85%), the distribution of returns (a ranking of a setup’s returns in comparison to at-any-time returns) undercuts the at-any-time median return of a buy-and-hold approach, and only 6.58% of the SPY‘s returns on option expiration fall into the top tenth of the SPY‘s at-any-time top tenth (best) returns (disproportionally small), while 10.70% fall into the bottom tenth of the SPY‘s at-any-time bottom tenth (worst) returns, slightly above-average.

Successful trading,
Frank

xx

Disclaimer: No position in the securities mentioned in this post at time of writing.

Remarks: Due to their conceptual scope – and if not explicitely stated otherwise -, all models/setups/strategies do not account for slippage, fees and transaction costs, do not account for return on cash, do not use position sizing (e.g. Kelly, optimal f) – they’re always ‘all in‘ -, do not use leverage (e.g. leveraged ETFs) - but a marginable account is mandatory -, do not utilize any kind of abnormal market filter (e.g. during market phases with extremely elevated volatility) , do not use intraday buy/sell stops (end-of-day prices only), and models/setups/strategies are not ‘adaptive‘ (do not adjust to the ongoing changes in market conditions like bull and bear markets).

________________________________

If you might want to be instantly notified about what’s happening in the markets and at TRADING THE ODDS, I encourage you to subscribe to my RSS Feed or Email Feed, and (or) follow me on Twitter.

xx

The information on this site is provided for statistical and informational purposes only. Nothing herein should be interpreted or regarded as personalized investment advice or to state or imply that past results are an indication of future performance. The author of this website is not a licensed financial advisor and will not accept liability for any loss or damage, including without limitation to, any loss of profit, which may arise directly or indirectly from use of or reliance on the content of this website(s). Under no circumstances does this information represent an advice or recommendation to buy, sell or hold any security.