MACD Whipsaw This Week - BackTest Results

The daily MACD this week made a couple whipsaw crosses.  It crossed up on Friday, then down on Monday, then up again on Tuesday.  This type of cross in one direction followed the next day by a cross in the other direction is not very common.

Going back to 1995 in SPY I only found 4 instances where there was an up/down/up pattern on three consecutive days.  The back test results did not seem significant.  No major skew in the forward returns, and small sample size.

When I look at just the down/up pattern on back to back days, I found 21 prior instances before this week.  In this case there was a definite bearish skew, with some large decliners in there, and the forward return showed a bearish skew with the forward MAX loss being over twice the size of the MAX gain at time frames from 3 days out to 1 month.

When I filtered the results for the occurrences where the MACD line was below 0, the results were even more bearish (this condition matches the current market) but with only 8 instances.  Only 1 out of the 8 had MAX losses less than 3% in the following month.

When I filtered for the weekly MACD being in a down position instead of the daily being below 0, the results were roughly similar with a pronounced bearish skew.

So, the first couple days since the signal in the last post, have not been typical of the strong negative skew suggested by that small sample size study.  But here again we see a piggy back study with a strong bearish skew, but small sample size.

Anything can happen, but I currently see no really great reason to abandon the previous trade currently.

As a side note, when I reversed the signal order for the whipsaw to up/down on consecutive days, there were only 13 prior instances, and the results were shorter term bearish, but more positive looking forward several months. 

My take away here is still to favor the downside for upcoming weeks.

Pete

New Put Option Trade - Stocks Could Decline Dramatically The Next 1-2 Weeks

Click on Table to Enlarge

The table here shows the results of the following back test criteria:

• daily MACD crosses down today
• daily 14,3 stochastics crosses down today from above 50
• weekly MACD is in the down position (fast line below slow line)

A relatively simple scan, but shows the impact of a market that is having shorter term technical sell signals with the larger current pointing down.

Four trading days later all 8 instances closes lower.  The minimum was 0.5% and the maximum was over 10%.  But looking at the MAX gains versus loss over the coming days and weeks, I rarely see anything this strong. 

The instances are not that high, but I don't think that means this sample is insignificant.  Some studies are rare, with small sample size, but are obviously notable events.

I purchased both a 214 strike Nov 18th expiration put as well as a 214 strike Oct 7th expiration put.  Based on the stats, this Friday's expiration certainly could be used as well.  The stats are about par with the 2 week stats as far as option % returns expected.

In this case, the past instances suggest a limit order of 160% gain on the put option would produce a very high expected value and win rate.  While the sample size is small, I am going ahead and placing that limit order.

I am going to wait for a couple days before placing the limit order for the Nov put.  I think the 199 level on SPY could be broken by November.


Trade Idea:
Buy the SPY Oct 7th expiration 213 strike put at the open tomorrow.

Additionally, a short/inverse trade could be entered here.  Using a 7.75% limit gain order and stop loss order (can enter as an OCO if available), would produce the maximum expected value based on the past test.

Pete

Very Bearish Set Ups Today - FYI

I have spent some considerable time today and over the weekend looking some back tests which have some similar characteristics as the current market environment.

Without going into all the different angles, if today closes below the open, the technical set up seems to be moving into a strong wave to the downside.

It is possible that today there will be a cross down in the daily stochastics, and the daily MACD, with both the weekly stochastics and weekly MACD in a down position.  This has been very bearish in the short term over the past 20 years.  Possibly when several different technical systems trigger a sell signal on the same day, there creates the possibility for some sharp short term follow through to the downside.

I will exit my UPRO trade today by the close if the close is below the open, and possibly even if it closes above the open.  The 3 day forward returns are so sharply bearish in what I have looked at, that I will make a discretionary exit based upon the new information.

Also, the put option from 1 week, all the way out to 2 months have some favorable outlooks based on the back tests.  The most simple play seems to be buying an ATM put with either 2 weeks or 2 months (or a mix of both) until expiration, and just waiting until expiration to exit.

I will make some final assessments by about 3:00 pm today and possibly post a specific trade recommendation. 


Pete

Update on UPRO and SPY Equity Trade 9-22-16

I recently made a post regarding a bullish ETF trade on UPRO or SPY with the trade stats suggesting an exit at the close of 9/21/16.  That exit came yesterday and was a profitable exit.

However I personally did not exit the position because of new scans suggesting further upside probability.  I looked at a few different angle of the market action, but 1 scan that looked at:

•  3 closes below the open in a row 
• with the daily fast stochastics below 30 
• and the yearly moving average of price pointing up

This produced a forward MAX gain in the next week that was over twice as large as the MAX loss.  There was a highly profitable play of closing the trade 5 days later (in this case at the close of next Tuesday Sept 27th).

So I have kept the same stop and limit sell orders that I originally had placed, but did not close the trade yet.  

I show this as an example of using new market information to adjust trade strategy on the equity side where there is no expiration.

For instance, a certain scan may have a nice forward return on average, but when you look at trades that move sharply in the new expected direction in the first few days, they may have a very profitable forward expected return over the next few weeks or months based upon the back test.  So in these cases, it would make sense to use the newly generated back test information to adjust stops, and continue to hold longer for larger probable gains as a leg up or down appears likely to continue.

If you knew you were in the midst of a probable trending move, there would be no desire to exit.  But you never know.  You have the past information as probabilities, and go with what it suggests.

Pete

Longer Term Pattern Analysis on SPY ETF - A Major Top Possibly Forming 9-22-16

SPY ETF is Forming a Possible 5th Wave Up and Creating Longer Term Bearish Divergence

Click on the chart of SPY above to enlarge the image.  But there is a pretty nice Fibonacci type sequence developing here.  I have put labels 1,2,3,4 on the chart with an implied 5th wave up to new highs expected using an Elliott wave interpretation.  And if wave 5 is then 38.2% of wave 1, it would project SPY to 225.50ish (projected up from the September low).  Based on the duration and relations of the other price waves, it would seem that the Oct 6th time frame would be a nearly ideal end to the sequence.

From a charting standpoint, the suggested price move in that time frame would lead to a break above the upper channel line of the April to August highs.  And from a technical analysis perspective it could make a massive multiple time frame bearish divergence in the MACD - monthly, weekly, and daily all in bearish divergence.  I have learned that those set ups are significant.  Even if a major top does not end up forming, I would guess there will be a significant correction after such a set up.

From a smart money perspective, we have seen the smart money become aggressive sellers since the move to new highs in July.  Price has not made much headway since then.  If we continue to see increased smart money selling as prices push higher, and price then breaks below the September low, that would be suggestive that the bearish forces have won this battle.

However, when large short positions are accumulated by the smart money, and the opposing players are able to push price several percent above the valuation/battle zone, it may force a short covering by the smart money.  That scenario can lead to major price gains in the market, and often in pretty steady fashion.

But then the scenario is that once the short covering is complete, the stage would be ripe for a major top.  I highlighted such a scenario in 2011 in the cotton market.  Given the large potential "basing period" since May 2015, a short covering rally could take the market much higher.  So I am not hanging my hat on one outcome.

Any short attempted at a quality set up would need a defined stop loss to protect against such a scenario.

But for now, my expectation is that prices will trend higher for the next week or two before another short/inverse set ups "ripens".

Pete

SPY Option Trade Exited for 50% Gain -

In follow up to the last post and recommended option trade for SPY calls, the profit target has been met and limit order filled for all of the different expirations which fell in line with the recommendation and past data.

The 50% limit order for expiration last Friday, this Wednesday, and this Friday have all been reached, so the trade is closed for another nice short term gain.

Currently, I expect SPY to move to new all time highs again, probably by the end of this month.  However, the pattern that I see, I feel could signal a major decline to follow.  I will give a perspective on the set up to follow for a possible longer term high with practical idea of timing a short/inverse trade on stocks as the set up develops.

Pete

New High Probability Call Option Trade on SPY 9-14-16

As of the close of Tuesday/yesterday's session, another high probability call option set has occurred.

I ran a scan with the following criteria:

• SPY gaps down between 0 and -1.0%
• SPY closes down more than 1%
• The %K 14 period stochastic is below 30
• 63 day MA is greater than 252 MA (bull market configuration)

So we have a gap down and lower close with the stochastics near oversold in moving average up trend.

There were 80 instances, the results in the table below.

The trade strategy would be to buy an ATM SPY option at the close of Tuesday or the equivalent price.  Then set a limit order of 50% gain to exit the trade.  Let it expire worthless if the limit is not hit.

Now the dilemma here based on my option analysis system is that we are at Wednesday, and the stats are for buying an option with 5 days until expiration.  But we don't have that ability.  We could either buy this Friday's expiration or next Friday's.  I would suggest getting more time rather than less because the stats are still strong for 10 days until expiration.  However, the skew is still very strong for the first 3 days in favor of upside gains.  So either way could be justified.

Pete

New SPY/UPRO Trade

Based on the flip flop reversal pattern which occurred in SPY over the last couple days, there is a bullish trade opportunity based on the past similar occurrences.

I scanned SPY for

• yesterday down more than 2%
• today gapped down
• today closed up more than 1%

18 occurrences came up, and the average close 7 days later was about 2.5% higher in SPY.  Now these stats are relative to Monday's close.  But early tuesday is down, and so the reward to risk may be even a bit higher which is good.

Now in this instance, I also see a qualitative pattern suggesting to me that SPY may make another move to new highs in the coming few weeks.  It would not surprise me if that ended the bull market though.

In this case I would suggest using a 5.5% limit sell order after entry on SPY, and a 5.5% stop loss order.  This can be entered as an OCO order if you can.  Exit the trade at the close of 9/21 if the limits are not hit. 

Most of the past instances occurred in bear markets where volatility was higher.  But the few that occurred in bull markets still showed a nice positive expectation.

Pete

SPY Option Trade Exited for 50% Gain

If entered using a limit order of 1.74 for the 213 SPY call option expiring this week, and using the 50% limit exit order which stats showed has had ~90% win rate on past similar tests, the trade is already exited in today's session for another nice play.

I took a partial position on that order this morning when my limit order of 1.20 did not fill shortly after the open.  SPY would have had to trade about 50 cents lower this morning for it to fill.

This shows what can be a pitfall of trying to get too perfect on certain trades.  The simplest play in this case would have been to buy right at the open as the gap down was indicated.  And the stats were so outstanding that there was not great reason not to.

In any case, for now if you have not entered (and exited) the trade ideas I posted, I suggest standing aside and let things further unfold.

Pete

Implications are Strong For a Gap Fill This Morning If Price Gaps Down

Futures in the SP500 have been lower since last night, and so I ran some back tests this morning looking at times when a 2% down day was followed by a gap down.

I looked at it with different filtering, but the results were consistent.  One of the ways I looked at it is to test and see if price gapped down less than 1%, would the gap be likely to fill?  Looking back at the history of the SPY etf there were 58 instances where the 2% down day was followed by a gap down in the range of 1% or less.  Out of those there were only 5 which did not completely fill the gap and trade back above the previous day's close.

When I filtered the results to look only at instances with a rising yearly average, the results showed 21 instances, all of which completely filled the gap down.  Also in these instances, the average close 5 days ahead (this Friday in this case) was 1.24% higher from the open (of today/ day 1).

Given the studies I looked at yesterday being so consistent, and a fair possibility (~50%) of a MAX intraday gain of 1% or more from today's open, I am going to purchase the SPY 213 call option expiring this Friday, with a limit order of 1.20.  It would take a move down to roughly the 212 level on SPY to fill the order.  Then I will set a limit order of 100% gain for exit of the trade.

Pete

SPY is Likely to Fall a Bit More Then Rebound Sharply for 1-2 Weeks - New Option Trade

The previous recommended SPY put option trade was exited on Friday for 100% gain which was the suggested limit order for the trade based on the backtests.

Friday was a notable day with a very strong sell off and close low in the range and huge volume increase.  The VIX swelled over 30%.  The total put/call ratio increased more than 20%.

The increases in the VIX and total put/call ratio themselves are not particularly bullish.  From the tests I ran, it seems to be neutral for the near term, but the risk for oversized sell offs is increased for the intermediate term looking out a couple months or more.

However, the price and volume pattern itself, is showing notable bullish skews over the next week.

A scan I ran had the following criteria:

• SPY down 2% or more
• SPY gaps down
• SPY closes in the bottom 10% of the day's range

Going back o Sept 1995, there were 112 instances, which is a nice sample size.  And over the following week, 91% of those instances, showed gains in ATM call options of 50% or more.

This is a very high win rate...outstanding consistency.

So the play here would be to purchase a SPY 213 call option which expires this coming Friday, Sept. 16th.  Then set a limit order of 50% for exit.  I would use a limit of Friday's closing value in the option for entry.  The closing value was ~1.74.

Another strategy would be to set a limit order to buy the same option at 1.30, and then set a 100% limit order to exit the trade.  This is based on the fact that there is a greater than 60% chance that tomorrow will have a lower low at least 0.5% below Friday's close.

When filtering for bull or bear markets or MACD configuration, the results were not significantly different.  

If tomorrow SPY gaps up, then based on the past similar occurrences, 2/3 of the time, price will decline back to the level of the previous day's close or lower - filling the gap.  I say this in case tomorrow gaps up, it would then be sensible to place the limit order at 1.74, and use the 50% limit exit order.

I may update on the set up again in the morning as I see the futures position and probable gap direction and size.

Pete

SPY Trade Update

Regarding the recent SPY trade I outlined, when I provided the information I stated that exiting after 7 days was the highest expected value on the backtest.  I did not take into account Labor Day market closure when suggesting exiting at the close today/Friday.  So the 7th day would actually be this coming Monday's close.

Currently, the decline appears to have quite a bit of downside strength and has not yet had bullish divergences on any time frame 15 minutes or above.  So it seems most likely to me that there will be lower lows to come below this morning's lows.  I don't have an opinion on whether Monday will be an up or down session.  For those that are moderately skilled in technical analysis and are able to monitor the markets a bit, it seems sensible to use a SPY 15 minute chart with MACD and exit if/when there is a 15 minute bar that closes at a new low for the decline, but the MACD lines are not at a new low.

But for the simple/safe method, the past stats indicate an exit at tomorrow's close for the equity side of the trade.

For the SPY put option recommended, it would likely take another 3 points down in SPY before hitting the 100% profit target from my entry, though my entry was not outstanding, and the last several days had much better entry prices with gains already reaching or nearing 100%.

I am still maintaining my 100% profit limit order for possible exit of the trade.


Pete

Probable Pullback in Stocks Over the Next 2 Weeks - Put Option Trade 9-1-16

I ran a simple scan this morning based on recent market action.

• 5 day moving average of total put/call ratio was above its 1 standard deviation bollinger band
• VIX high was less than 15

Typically I view the top condition as a bullish set-up, meaning when the put/call ratio elevates to an extreme, stocks are about to rebound.  However, the second condition shows a market which has been very low in volatility and is not "oversold" or exhibiting much fear as evidenced by option premiums.

So what we have is potentially the early signs of the low complacency starting to break.  So I tested to see what happened after past similar instances.

Over the next 2 weeks the MAX loss was about 3 times the max gain in SPY.  So there is a significant bearish skew.  Some of these signals come in clusters, so I only looked at results relative to the first day of a cluster and removed the rest.  There were 9 unique instances left going back to Sept 1995.

Setting a 4% limit gain order on SPY and a 4% stop loss order (both relative to Wednesday's close) and shorting SPY has been a profitable play in the past.  If the limit orders are not hit within 7 days, then exit the trade.  So exit at next Friday's close if the limit/stop is not hit.

For options, 7 out of the 9 past instances showed an increase of 100% or more when buying an ATM put option with 2 weeks until expiration.  So in this case a 217 SPY put expiring either next Friday or the following Friday would both be OK here.

I personally have an order to buy a Sept 16th standard expiration SPY 217 put for 2.35.  It would take some rebound from this mornings lows to fill the order.  SPY would have to rise to 217 to 217.35ish to fill the order probably.

Pete