Thursday, September 1, 2016

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.


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