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SPY Straddle Fade and QQQ Straddle Long Since 2005 (SPY QQQ) 11.28.2012

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What if one put on a pair trade? What would the results be then? Selling the aforementioned SPY straddle and buying, for example, the QQQ straddle. This is exactly what KOTM did. The thinking behind this strategy could be that SPY volatility is expensive and QQQ volatility is cheap. Another way to think about this trade could be that one is just covering their downside, for if the market crashed the short straddles will get crushed, but the long straddles will be rewarded. A risk to this strategy could be a year 2000 type scenario; where one index acts dramatically different than the other (even if we are indeed long QQQ vol, the idea of uncorrelated markets is a risk).

The results to this study were indeed very interesting. One would think, in theory, the theta (time decay) and long premium would end up being a losing trade, but it was not. The long straddles ended up adding to the net profit. The QQQ total return was a losing trade most of the time, which could be predicted.  The spikes higher and lower were from crashes or spikes. The QQQ made $4.95 since Feb of 2005, in addition to the $48.72 the SPY made. The important part of this exercise is that the long straddles did offset losses during crashes.

The SPY was $116 in Feb of 2005 and is around $140 now, this trade made $48.72 points or around 42% total relative to SPY in ’05 or 35% total relative to SPY now. The QQQ made $4.95. The index was around $40 in Feb of 2005 and around $65 now; 12% total return relative to 2005 and 7.6% total return relative to now.

The trader would have to size the amount of contracts accordingly; relative to the size of both index products in order to do a proper pair trade…along with many other things. Below is a chart of the total return.

Screen shot 2012-11-28 at 10.25.24 AM

KOTM is clearly not suggesting selling an unlimited risk spread, but the data is interesting. More to come on this project.

Feel free to e-mail any comments, feedback, suggestions, or general inquiries to…

Author

salerno.mark.a@gmail.com

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Pregame AAPL Earnings From Every Angle 10.25.12

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The first graphic is a daily bar chart of price’s reaction to the past nine earnings announcements from AAPL. Action after the event is mixed; in most of the sample set, eight of the nine observations, AAPL gapped, but then filled or reversed into said gap. In the other observations, AAPL gapped, but then trended or pinned that Friday. This is indicative of efficient markets and random walk…for each observation is unique and independent of past price action. The gap is the price’s way of adjusting to new news. While this gap may seem inefficient, the derivatives market, in most cases, was expecting said move.

Screen shot 2012-10-25 at 7.11.46 AM

Now to what is implied for the coming event, because the AAPL weekly options only have two days until expiration, they will be an organic way to derive what is implied for the event today after the close.  Using the KOTM implied volatility & time based model, we calculated the one-sigma move (68% probability within) to be roughly $38 up/down or about 68% chance we settle between $654 and $577 by the close on Friday. The two sigma move (95% probability within) is $77 either way or $692  & $539. The implied volatility curve (IV being a measure of risk, supply and demand, relative price, and an input into theoretical models) is displayed below, for it is important to know, especially if one is trading two different months in a spread.

The following chart includes the one and two sigma rolling probability cone, volume profile, and major moving averages (50, 100, 150, & 200).  While the chart may seem noisy, it sure does tell us a lot if you listen! AAPL made its ATH of $700 and has been sifting lower since. Anchoring the breakout on 1/15/2012, AAPL is just about at the 38.2 Fibonacci retracement level. The 150-day moving average at about $614 has proved to be solid support over the last three days. Other than little support levels like prior lows, the next serious support level is the 200-day moving average at $586. Considering the massive OI in the weekly options there is a change it could pin, even though we are not using the monthly cycle options. On expiration Friday, the 50-day will sit at the higher end of the two-sigma rolling probability level, and the 200-day at the lower end.  The 200-day is -4.8% away and the 50-day is 7.5% away.

Screen shot 2012-10-25 at 7.23.33 AM

The ATM (at the money) front month $615 straddle (lifting the offer) is at about $32.10 (5.1% of stock). Because deltas move to one faster near expiration, it is easy to calculate break evens on the straddle; $582.9.75 & $647.06… IV crush, large gamma, and time decay.

IV is actually expensive however, historically speaking, given the average is 68% and Wednesday closed at 86%. The average % move and net change are about 5.5% & $26 respectively…see excel sheet for all data. Considering AAPL’s price, the ATM straddle will cost about $3,200. This is where the AVSPY will come in handy, while this is not a pure AAPL play, it does lower the relative cost.  The $220 ATM AVSPY straddle is about $15, about 6.8% of that product, and only $1500 per one lot.

Screen shot 2012-10-25 at 7.55.51 AM

Alpha options explained here LINK

http://www.keeneonthemarket.com/blog/1562-goog-aapl-spy-alpha-option-review-avspy-a-goosy-10172012

Feel free to e-mail any comments, feedback, suggestions, or general inquiries to…

Author

mark@keeneonthemarket.com

Data courtesy of Thinkorswim

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Caterpillar Inching Lower? (CAT, XLI, SPY) 10.23.2012

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China, according to CAT, has continued to be weak…FXI. CAT went on to say that their finished inventory could have been lower if China was not slowing so fast. In the communist Chinese 5yr plan, they propose to accelerate some infrastructure spending and this has been compounded by monetary policy easing, anf for these reasons CAT expects a little bit of a pick-up here in the fourth quarter. “The sentiment on the ground from the dealers is a bit better, but in terms of translating it into sales, I’d say it hasn’t happened yet, so the selling season is sort of mid-February on, so probably not going to see much till then.” Mike DeWalt –Director of CAT IR

CAT CEO Douglas R. Oberhelman commented, “Well, we’ve had the easing expected to open almost all year. We are seeing increased levels of building permitting this year over last year. We’ve also seen in the last six weeks or so have major infrastructure effort announced. I suspect all of that is aimed after Presidential – leadership transition and most of that’s aimed towards spring of next year which is kind of a confluence of when is it around Chinese New Year, but if it happens it is going to happen then if it doesn’t we are in for another kind of slow year in 2013. But right now the cards in the hand are looking better than they have for a while. But I would emphasize nothing concrete from (water’s edge) yet.”

The muddling along thesis seems to be playing out, for CAT and XLI have been flat to lower. Oberhelman said, “We’re not expecting rapid growth, and we’re not predicting a global recession.” However, there is also the fiscal cliff and Europe to worry about

Feel free to e-mail any comments, feedback, suggestions, or general inquiries to…

mark@keeneonthemarket.com

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Low VIX Strategy & Skew Play (VIX, VXX, VXN, SPY) 10.19.2012

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From the prospective of an options trader, one should know the basic categories of being a net premium seller vs a net premium buyer. Each category clearly has is pros and cons, but it more or less could debatably come down to one’s volatility forecast. It is popular, for example, to fade the implied volatility pump pre-earnings; for uncertainty rules around catalysts. Then as the event comes and goes implied volatility collapses and traders cover their short premium. The former is very dependent on a good risk reward ratio, forecasted IV crush, and underlying asset…but it is all based around volatility.

The five-year (#Fibonacci) average of the VIX (252 trading days in a year x 5= 1260) over 1260 periods is around $26.00. This is roughly 60% from current levels, but it is important to remember that when the VIX decides to move, it really moves. The last time we were at a $26 VIX was in June 2012.

Large trades in the VIX seem to confirm this upside potential. Big players were trading the upside call skew in November, more specifically, the NOV 23/28 1×2 call spread. This is taking advantage of the upside bid in the VIX calls, for this trade takes in a small credit by selling the short strike of a long call spread 2x. It profits big in-between the strikes, but profits start to trail off after 28, should the VIX really explode by NOV VIX expiration.

Equity option strategies that would most likely profit from this kind of VIX scenario include the loved & hated gamma scalp. While Greeks are obviously important here, the concept is really simple. Long straddles fluctuate, benefiting from volatility, then as one side of the straddle profits, traders sell or buy stock to neutralize their deltas as the straddle becomes delta bias toward the winning side. As the stock moves up and down, small profits are made via scalps; offsetting time decay. The challenging part of this strategy is when to neutralize said delta along with scanning for a good underlying. Scanning for a stock with not too much IV, but with just enough bang is what most find challenging, for if volatility or the stock does not move, this strategy is crushed.

Feel free to e-mail any comments, feedback, suggestions, or general inquiries to…

Author

mark@keeneonthemarket.com

MarkVIX

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Don’t Google for Profits, Just Read This: Pregame GOOG Earnings From Every Angle (GOOG, GOOSY, SPY, QQQ) 10.18.2012

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The first graphic is a daily bar chart of price’s reaction to the past nine earnings announcements from GOOG. Action after the event is mixed; in most of the sample set, six of the nine observations, GOOG gapped and pinned on expiration (red vertical line). In the other observations, GOOG gapped, but then filled or reversed into said gap. This is indicative of efficient markets and random walk…for each observation is unique and independent of past price action. The gap is price’s way of adjusting to new news. While this gap may seem inefficient, the derivatives market, in most cases, was expecting said move.

Now to what is implied for the coming event, because the GOOG October options only have two days until expiration, they will be an organic way to derive what is implied for the event today after the close. Using the KOTM implied volatility & time based model, we calculated the one-sigma move (68% probability within) to be roughly $44.17 up/down or about 68% chance we settle between $799.67 and $711.31 by the close on Friday. The two sigma move (95% probability within) is $88.35 either way or $843.85 & $667.13. On Wednesday, October 17th 2012, the stock had a 1.5% pop while the market was only up 0.5%…1% alpha (we will touch on GOOSY alpha options later). The implied volatility curve (IV being a measure of risk, supply and demand, relative price, and an input into theoretical models) is displayed below, for it is important to know, especially if one is trading two different months in a spread.

The following chart includes the one and two sigma rolling probability cone, volume profile, and major moving averages (50, 100, 150, & 200). While the chart may seem noisy, it sure does tell us a lot if you listen! GOOG broke out of its June-July range on 7/5/12 and has yet to seriously look back. The recent pullback tested the trend line and 23.6% Fibonacci retracement level. Other than little support levels like prior lows, the next serious support level is the 50-day moving average at $710. On expiration Friday the 50-day will sit at the lower end of the two-sigma rolling probability level. The rolling probability levels and the KOTM probability levels differ for inputs like IV were not the same. The rolling used a lower IV, an average of the whole IV curve, which says there is a 2.5% chance we test the 50-day by expiration Friday (nearest red vertical line) vs the KOTM probability of 16% we test the 50-day by expiration Friday. The KOTM model is only used for the next two days, for it would not be appropriate to input 80% IV over the long term, as this one is only used before an earnings announcement. Additionally, we are currently sitting at the point of control on the upper, yet small, distribution. The other moving averages sit about 15% below us.

The ATM (at the money) front month $755 straddle (lifting the offer) is at about $39.50 (5.2% of stock). Because deltas move to one faster near expiration, it is easy to calculate break evens on the straddle; $715.75 & $794.25… IV crush, large gamma, and time decay. It is vital to note that given the ATM straddle, it is estimated that GOOG will need to expire one standard deviation away from where we are now, or move + or – $44, either way, just to make about 10% on the trade (using the KOTM sigma model).

IV is actually cheap however, historically speaking, given the average is 102% and Wednesday closed at 79%. The average % move and net change are about 7% & $40 respectively…see excel sheet for all data. Considering GOOG’s price, the ATM straddle will cost about $4,000. This is where the GOOSY will come in handy, while this is not a pure GOOG play, (see link below for alpha options explanation), it does lower the relative cost. The $88 ATM GOOSY straddle is about $4.10, about 4.6% of that product, and only $410 per one lot!

Alpha options explained here LINK

http://www.keeneonthemarket.com/blog/1562-goog-aapl-spy-alpha-option-review-avspy-a-goosy-10172012

Feel free to e-mail any comments, feedback, suggestions, or general inquiries to…

Author

salerno.mark.a@gmail.com

Data courtesy of Thinkorswim

 

MarkGoog3MarkGoog2 MarkGoog1

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GOOG & AAPL v SPY Alpha Options Review (AVSPY & GOOSY) 10.17.2012

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The index is simply a function of the absolute difference between the performance of AAPL and SPY. On 10/12/12/ the SPY closed down 0.34% while AAPL closed up 0.26%. So calculating the outperformance of AAPL would be adding SPY’s 0.34% to AAPL’s 0.26%, thus coming up with AVSPY’s close of up 0.60%. One could think of this product as long AAPL and short SPY, but not having to worry about weights, the proper amount of compensating shares, or borrowing costs.

Nearly any financial media outlet will have guests on touting this market as very unique, for it’s been a ‘stock pickers’ market…as if there is a market where you don’t have to pick the holdings in your portfolio. These managers try to beat market returns with their unique strategy and insight into companies.  They attempt to pick excellent management with positive industry trends for example. The unfortunate part of this is that after all the fees and headache, most funds have returns just like an index fund.  NASDAQ OMX alpha options are a convenient way to track and trade this performance, if one was really inclined to invest in management vs the S&P 500. This is just one way to view this product; another could just simply be hedging an individual long with a short index. This could especially be valuable, for the market has been known to trade on news from individual companies with large business scope and market clout… like GOOG & AAPL; both of which have alpha options.

The AVSPY also only has one implied volatility (IV) traders need to worry about, for if speculators wanted to play this otherwise in a pair trade, there would be two different contracts with different IV profiles. Considering AAPL earnings are only about seven trading days away, this product will be an interesting variable to look at when constructing a trade.

Screen shot 2012-10-13 at 1.45.35 PM

Feel free to e-mail any comments, feedback, suggestions, or general inquiries to…

mark@keeneonthemarket.com

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Did the Options Market Get Too Bearish? (SPY SPX) 10.11.2012

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As the SPY comes into its 50 day moving average, what is the implied volatility saying in the derivatives market and is that a ‘tell’ we may be going lower.

The S&P 500 future is now $40 away from its October 5th high. Implied volatility (a measure of risk, supply and demand, relative price, and an input into theoretical models) in the October monthly options rallied up from 12.76% to the current 16.22%, or about 3.46 percentage points. IV (implied volatility), given the pump up because of the sell off, this increased premium traders can work with, but also changed the recent trading environment.

The previous example in the SPY is a natural go-to guy for many reasons. SPY is super liquid and represents the S&P 500 index. This ETF does have a setback…skew. Skew is a phenomena in major products that is a result of large selling of OTM (out of the money) calls and buying of OTM puts. While this may seem strange it is completely natural for large institutional holders with systematic risk, or market risk.

The data below displays the relative price of 5% OTM puts and calls in October with 8 or 9 days til expiration. The point is that the most recent observation is relatively expensive, or you get the most bang for your buck by selling OTM puts and buying OTM calls in a ratio. The puts premium being taken in and using that to buy calls.

 E-mail the author with any comments, questions, or any inquiry

mark@keeneonthemarket.com

Data courtesy of Thinkorswim

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Morning Rage 8.30.2012

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Google (GOOG | 688.01 [+10.76]) moves higher at opening yesterday and continued to move higher throughout the day. It has reached its highest level since the final quarter of 2007. After the Apple lawsuit results broke Monday, analysts expected GOOG to be hurt by restrictions on Samsung phones. GOOG had a steep decline of about 15 points at the bell on Monday. Those who sold on Monday learned a valuable lesson, as the stock jumped almost ten points from last week and twenty points from Monday.

S&P Futures (1402.00 [-0.50]) trading below fair value as the market continues to be inactive. The S&P (SPY | 1410.49 [+0.08%]) hasn’t closed with a one percent move in either direction since August 3rd.

Traders are waiting for Federal Reserve Chairman Ben Bernanke’s speech Friday in Jackson Hole, WY. Also to be announced this week, U.S. jobless claims estimated to stay within the range of 365k to 375k. Claims have been down since mid-April, by almost 100k. Jobless claims measures the number of individuals who have filed for unemployment insurance for the first time, making it a poorer measure of economic health in an economy with high unemployment since 2009. The report is released at 8:30am EST. 

Alex Kalish has a masters in economics from Suffolk University.

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September Seasonal Stock Performance

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Post Labor Day performance is defined by a Triple Witching Week where stock options, index options, and index futures all expire at the same time on the third Friday of the month. The third week of September, the week of expiration, as been slightly bullish since 1990. The following week is consistently bearish posting only 3 positive gains in September since 2000.

The end of September is prone to weakness due to institutional portfolio restructuring; the last day of Q3, this year on september 28th, has been down 10 of the last 14 years. From 1995 to 1999, the Dow average 4.2% gains, only to follow with a six year losing streak averaging -5.9%. The Dow recorded two positive years in 2009 and 2010 averaging a 5.0% gain. For the last seven years, the S&P has posted gains in September with the exception of 2008 during the financial crisis. The NASDAQ also posted gains for the past five years with the exception of 2008.

Alex Kalish holds a masters in economics from Suffolk University.

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Why Me Might Correct in September 8.23.2012

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Although it appears that we are in a strong bullish trend, I feel that sentiment is on the edge. The S&P needs the smallest excuse to tilt in the bearish direction, and it could tear lower. I would not place a bullish bet on this index.

PutsandCalls

David Cornes holds a degree in economics from the University of Montana.

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