Bullish Set-Ups Continue Based on Historical Data

SPY prices broke below the late September low on Friday, as well as below the August closing low.  This may mark a point where a short covering rally begins by the smart money.

Stats for gap downs greater than 2% show a profitable 1 week call option purchase at the close of the 2% gap down day.  The win rate is about 66%.  Kelly bet % is around 20%.  The limit order to exit the trade for maximum expected value is 70% gain.

The equity set-up is also bullishly skewed.  Paired stop loss and limit gain orders of 6.5% show a 5 day expected value of 1.39% on historical data if exiting at the close 5 days ahead if the orders are not hit.  Kelly Bet stats justify full 3x leverage on the bullish trade.  So the expected value with full 3x leverage would be about 4% for the upcoming week.

Based upon the pattern develop here in stocks, I think stocks could rally from here and then meet resistance in the 199-204 level on SPY.

Let me know if there are any questions on this analysis or your specific trade situation.


Pete

4 Closes Below Lower Bollinger Band In a Row in SPY - Very Bullish Historically

The stats are phenomenal for a 1 week bullish trade on the indexes after 4 consecutive closes below the lower bollinger band in SPY.  That criteria was met today.  Going back 20 years, there are only 21 days that meet that criteria.  The forward 3 day max gain is 4 times as large as the max loss, so the set-up is great for an equity trade.  Only 4 out of the 21 days have led to maximum option gains of less than 50% over the next 5 trading days if buying ATM options from today's close with 5 days until expiration.

If setting an equity trade with equal profit and stop limit orders, a 12.5% limit combo provided maximum expected value of about 3.35% in 3 days.  Exit the trade after 3 days (in this case by Thursday's close) if the limit orders are not hit.

The option trade maximum expected value is to set a limit order of 130% and buy the weekly ATM call, in this case Friday's standard Jan 15th expiration.  There have been 15 winners and only 6 losers in the historical 21 instances.

Based on the past instances the next day began on average with a gap up, but about half the instances traded below the previous day's closing price.  15 out of the 21 instances experienced at least 0.5% loss after the opening on the follow day.  So these numbers suggest that if you did not get in by today, then setting a limit order a little below the open tomorrow would be a reasonable probability to get filled and still have the lion's share of the move likely to play out to the upside.  Of course, if the gap is very large tomorrow, that could skew the risk reward.

So the pieces are in place for a nice rally here for the rest of the week.

Let me know if there are any questions regarding trading from this analysis.


Pete

Extreme Stock Market Position Update

In the short term, stocks continue to push lower in the face of extreme technical set-ups.  If today closes below the lower Bollinger band on SPY, that will be 4 days in a row, which is pretty rare and is further suggestive of a sharp snap back rally in the days to come. 

On the 30 min MACD chart of SPY there is a pronounced bullish divergence as prices have grinded lower the last few sessions.  To me this suggests that the short term climate is ready to rebound, though over the coming weeks and months, this environment seems likely to be a second leg down in bear market which could be substantial.

The statistics from historical comparisons are so short term bullish right now that I feel I HAVE to take the opportunities even if they seem to be counter trend.  However, I plan to make some scans on short term rebounds that filter for established downtrends so that opportunities for trading a bear market trend are identified.

Pete

Even More Bullish Call Option Set Up - 3 Consecutive Closes Below Lower Bollinger Band

Click on Stats to Enlarge

Going Back a little over 20 years in SPY, there have been 47 previous instances before today, of 3 consecutive closes below the lower daily bollinger band.  The statistics above show the option trade stats for buying an ATM call option with 1 week until expiration and setting a limit order to exit at 130% gain or exiting at expiration.  This limit order provided the optimal expected value.

This is a very simple scan but is a very powerful set up historically.  Over the next 5 trading days, the MAX gain has been twice as big as the MAX loss in SPY.  This skew provides a profitable equity play here as well on the long side.  Setting a loss limit of 12.5% and a profit limit order of 12.5% has led to an average gain of 2.34% in the past history if exiting at the close 5 days later if the limit orders were not hit.

Pete

Probable Bullish Opportunity In SPY Call Options Here - Also Bullish ETF Trade Ideas

Click on Stats to Enlarge

There have been 2 consecutive days in a row with a greater than 1% gap down.  Going back about 20 years, that has happened 29 other times.  And based on the historical stats on this, it shows a very probable short play on the weekly call options, in this case the ATM call expiring next Friday.

Some further refinement of these scenarios shows that 20 out of 29 times, the next day showed at least some intraday loss.  However, the average gap up the next day was 0.86%.  So that tells us that it has been pretty common place for these market environments to show a gap up followed by a quick sell off to retest the low, and then a sharp 3-4 day rebound rally to follow.

I also ran some scans looking at times when SPY closed below the lower bollinger band 2 days in a row, and when daily stochastic was oversold with a "panic selling" environment, and they all showed bullish trade opportunities on the historical stats with the 1 week time frame being the greatest reward to risk opportunity in the options.

So it seems that the play here would be to set a limit order to buy a SPY Jan 15 expiration option 192 or 193 strike call.  Set the limit order a little below today's closing value.  I would suggest the 193 strike call with a 2.75 limit order.

Then based on the stats a limit order of 40% gain could be used to exit the trade.  That order provides the optimal expected value.  The Kelly Bet % is very high at about 50% of the account value.  But the number of instances is only 29, so I would reduce that fraction to about 1/3 of 50%.

For the EQUITY side of the trade.  The optimal play would be to buy tomorrow, probably with a limit order about 0.5% below today's close, and then set a 7.25% stop loss level and a 7.25% limit order to exit at a profit.  Even though the losses maximum loss would be as big as the maximum gains, the skew is so positive that it creates a very favorable time to enter on the long side.

A 4.75% limit order and stop loss would have an expected value that is not very much lower, but the loss limit is smaller and may be another option depending on your management parameters.

The trade stats are so positive here that this trade could justify entering the whole account in a 3x long ETF.  The historical stats suggest that.  Obviously that creates the possibility of major drawdowns.  But it produces the optimal account growth for a positive system.


Let me know if there are any questions here.


Pete