Monday, November 28, 2016

Currently Near Probable Momentum Peak In Stocks

As of today in SPY, the 14 period Money Flow Index turned down from above 85.  Also, the daily lower bollinger band turned up after an expanding move in the recent run up.  Both of those signs are typical of the end of the main trending part of a market move.

From my perspective it seems most likely that stocks will retreat slightly or chop around but still end up pushing to higher highs in coming weeks.

Currently the SPY etf is setting up for a major multiple time frame bearish divergence.  Both monthly and weekly MACD signals are in a bearish divergence at the recent highs.  The daily MACD has not matured to a bearish divergence yet.  The better set up for a possible intermediate top area would be for a mild decline in SPY, followed by a move to new highs with a daily time frame MACD bearish divergence.  The daily weekly/combo of bearish divergence readings in itself has had a forward negative skew in SPY, though not a huge one.

Seasonally stocks have historically tended to hold up into the Christmas/New Year's time frame.  It doesn't seem to me to be a solid bet against the uptrend at this time.  But the recent upwards move seems to be mostly out of steam for the short term.  I do not see any reason to bet on further advances unless there is a compelling short term sell off which occurs over the near term.


Wednesday, November 9, 2016

Still Expecting Some Volatile Chop Ahead For Stocks

Today (including last night futures trading) was a unique event for sure.  I really don't know if backtests are that meaningful on this situation.

My feeling is that despite that big drop in implied volatility, there will still be choppy/volatile type trade in coming days.

For instance here a look at forward MAX gains and losses across time frames following a day where the VIX drops more than 20%.

Click on Chart to Enlarge

There were only 10 instances going back 21 years.  But see that there were some big decliners to follow.  The skew was quite negative.  I had showed the stats on the VIX being down more than 15% in a post a couple days ago.  It showed that about 2/3 of the time prices closed lower 7 trading days later.  Well in the VIX down more than 20% scan here, the average closing price 8 days later was down nearly 3%.  That was helped down by a couple big instances in October 2008 which were in the thick of the most volatile time in history.

Anyway, the reasons for very high volatility and erratic moves in the VIX may be varied.  But on average there were some choppy situations ahead.  And based on the averages and MAX loss values on a closing basis following these signals, it would suggest that prices could trade lower into late next week.

I am not making any further buys or sells at this point.


Tuesday, November 8, 2016

Implications of Persistently Elevated VIX/VXV Ratio 11-8-16

Click on Stats to Enlarge

The VIX is a measure of implied volatility in options with an expiration of about 30 days.  And I have discussed the VIX in relation to the VXV many times on this blog.  The VXV is a measure of implied volatility in options with about 90 days to expiration.

When the shorter term VIX is above the longer term VXV, there is a theoretical imbalance occurring.  This indicates "fear" or increased demand for options which are used as a hedge.  So we see the ratio spike on sell offs in the markets.

Currently the VIX/VXV ratio is on its 4th day in a row above 1.0.  The VXV has limited history only going back to about 2010.  So we don't have a lot of data and information from prior bear markets to assess this ratio in downtrending markets.  But there have only been a few periods where the ratio has stayed elevated above 1.0 for a significant stretch over many days or even a few weeks.

Also, of note yesterday and today is that we are seeing a large rebound in stocks, with a big drop in the VIX, and yet the VIX/VXV is staying above 1.0 as of current readings this afternoon.  Typically after stocks bottom and the big initial few days of rebound occur, the ratio gets back below 1.0.

So I looked at times when the VIX/VXV ratio was above 1.0 for two consecutive days where both days were UP in the SPY etf.  There was a negative skew in forward looking time frames on this scan, though the instances are limited.

Then I added the further criteria that yesterday was up more than 1% in SPY (like our current situation).  So yesterday was up big, and today is up again, and yet the ratio is still maintaining a reading in the "fear" zone.  The results of the scan are shown in the chart above and demonstrate that over the short term, stocks were volatile and had a negative skew.  Basically until the ratio drops back below 1.0, there is not an "all clear" type of return to normal signal for the markets.

So in the current situation, it makes sense that short term hedging demand is increased with the election results still ahead tonight.  But don't be surprised if there are some wide gyrations in coming days or weeks, because this ratio indicates that underlying sentiment has not unwound back to normal yet.

The past area where we saw this type of behavior were after the bulk of a correction was done, but moving forward there was some wild gyrations in the process of retesting a bottom.

So I would expect to see a retest of last weeks lows in the coming week or 2.


Monday, November 7, 2016

SPY Option Trade Exit for 50% Gain

FYI, last week I had noted that I bought a 210 SPY call which expires this Wednesday based on data suggesting a very high probability of a 50% gain in the option prior to expiration.  That 50% gain level was hit today and my limit order filled and the trade was exited.

And I am still holding a Nov 18th expiration 214 strike put as stated at that time as well.  My goal was for the above short term option to create a brief hedge of the expected drawdown which was anticipated in this later expiration 214 strike put.

Now the stats posted earlier today are suggesting that most of the upside potential has likely unfolded in stocks, and it is reasonable that stocks could move lower allowing me to confidently maintain that 214 strike put based upon the intermediate term outlook.


My Trade Idea For This Set Up 11-7-16

Based upon the analysis provided earlier today, for my personal situation I feel the best way to make a play here is to go with a deep in-the-money put option rather than an inverse leveraged ETF.  This way I can still get an option and size my position so that in the worst case scenario I lose the whole option value, it still falls at about 1/2 the Kelly bet % which the back test on this large VIX decline produces.  Now with a deep in the money option and the tendency for volatility to shrink on market rises, it seems very unlikely that a 220 or higher strike put on SPY (expiring in 2-3 weeks) would be likely to lose all of its value with price rising and staying above 220 at expiration 2-3 weeks.  That would take another 4% gain or with a back test that is strongly negative and the market rising into resistance at the 213-216 levels.

So I currently have an order for a 224 strike put on SPY which expires Dec 9th.  Based upon some cycle analysis and time relations of recent moves up and down, I would expect price to continue to decline through November expiration or beyond.  And that matches with the recent back tests I showed this morning as well as with some which showed up a few weeks back suggesting weakness for a couple months (November in this case).  I am looking to enter the option at 11.00 which would take a push to basically 213 on SPY.

For those that may think that it would be better to wait until the election is done and the results are know or that there may be some big rally on the news, understand that market are constantly factoring all this into price.  In past instances there were significant corresponding upcoming news in interest rates, elections, bailouts, etc, etc.  And the stats are what they are.

Personally, my feeling is what outcome could be significantly unexpected (not factored into current prices) which the market would rally hard on?  I don't know.  But if a candidate wins that the market is not expecting, I could easily see a short term reactionary sell off.

So for me, the position sizing far out of the money, coupled with the objective past stats (which are not all encompassing, but good enough for me to make clear decisions) suggesting this type of rally is often a very short term pop, factors in the possibility of upside surprise and worst case scenario but still gives a leveraged position that can profit from what seems the most likely scenario.

Let me know if there is any question on this analysis.


Big VIX Declines In A Down Trend - A Short Trade Set Up on SPY 11-7-16

I posted recently that there was likely to be a sharp rebound in SPY based on the multiple days in a row below the lower bollinger band.  We are seeing that today with SPY up nearly 2%.  So the question now is really about how far the rebound is likely to go and what is the next tradable move.

Currently around noon EST today the VIX is down about 17% from last session's levels.  When I backtested SPY (going back to Sept 1995) for performance following days where the VIX dropped more than 15%, the results showed negative skews looking forward all the way out to 6 months.  There were 39 instances in this scan.

This means greater MAX losses on average compared to MAX gains over the time period.  The skew was most negative over the first couple weeks.  So this should give us some perspective that these types of big moves in the VIX are in markets that are in the midst of choppy sell offs or abrupt rebounds and possibly short covering rallies.

I went further and looked at times when the VIX dropped over 15% and also SPY gapped up more than 1% as it did today.  There were 19 instances in this scan.  The result was even more negative in the skew.  Additionally on a CLOSING basis, all forward time frames from 1 day out to beyond 2 weeks (and even at the 1, 2, and 3 month forward times) showed negative average returns from the signal day.

What this indicates is that these rallies tended to make most of their gains off the bat, and then stocks began to decline again.  Of course there were some instances where stocks continued to rally nicely.  But I am referring to the averages of all instances here.  The strongest negative skew looking ahead was at 2 weeks forward.

I also went ahead to look at time where the MACD (daily and weekly) were both down when the gap up and big VIX drop occurred.  This left 15 instances and eliminated 4 more.  This scan fits our current market where the big jump is coming right off a low as opposed to a market that has already begun to turn up or is in a consolidation.

Here again the skew is even more negative.  And the peak of that negative skew is at 2 weeks forward.  Closing returns are again sharply negative on average looking ahead in coming days.  At 7 trading days ahead, 11 out of the 15 instances closed negative relative to the signal day.

Now in looking at past instances most of these situations were pretty choppy.  This makes the option play of buying puts less ideal.  But the expected values in shorting the stock or using an inverse ETF appear to be very good on average.

The best play from my perspective appears to be to short SPY (or buy inverse ETF) with a paired limit exit gain of 9.25% or even 15% and then a stop loss of a corresponding amount.  Obviously it would be almost  incomprehensible for a 10% gain SPY over the next couple weeks.  But as a simple strategy that allows for an expected value of around 3% on shorting SPY.  This would equate to closer to 10% expected value on a 3x inverse ETF like SPXU.

From my current perspective it seems that I would want to be short before the election results came out if stocks hold up into tomorrow.  Based on these results I will determine a strategy to enter an inverse position.  Possibly  enter half a short position today at the close, and then wait to enter a second half position based on future action or an actual short term technical topping signal like a 15 minute MACD divergence.


Thursday, November 3, 2016

Continued Possible Bullish Set Ups For Stocks 11-3-16

While there is still time in today's session, and it looks to me like price could rally this afternoon, I wanted to get some info out because of the situation.

If prices close below the lower bollinger band today it will be 3 in a row.  This is a bullish set up.  Other factors currently in play, low stochastics, low MFI reading, multiple closes below the open in a row all increase the bullishness on back tests.

About half of the past instances where prices closed 3 days in a row below the lower bollinger band, it went on to close below it for the forth day in row the following day.  4 closes below the lower band in a row is a massively bullish set up on the back test.  And over the following 3 days the MAX gain is nearly 4 times as big as the MAX loss in SPY.

So the point here is that IF we close below the lower band again today in SPY, there is a nice set up based on past data.  And even it goes on another day or so, the snap backs in the past have been sharp, and may still end up being a profitable end result.

The play would be to buy the ATM SPY call option which expires next Friday.  There are a range of limit order with high probability of success and strong expected value.  80-130% limit orders are the right range.

For specifically 3 closes below the band in a row, the peak closing return on SPY has been 5 days later base on the past instances.  The average was about 1.5% gain (including losers).