Saturday, October 24, 2009

Analysis of SPY and IWM Straddles Chances

This week we posted the straddles for SPY and IWM and a few others, please see post. The straddles were calculated with or StraddlesCalc tool, which indicates the maximum move required for profitability. In other words, how much the stocks has to move, at most, for the position to be profitable.

The moves on SPY and IWM are the lowest required, at around 4% and 6%. If there is a market correction, then these moves will be easily achieved, particularly more so because volatility will increase, and the premiums will rise. A drop of significantly less than those values will do it.

So the question is, what if the market does not crash? We looked at past periods since June 1 2009 to see what were the moves of SPY and IWM within several time frames measured in number of days. Here are the results:

The table shows the average moves of all 1-day, 5-day, 10-day adn 25-day periods. Since we are currently within 28 days to expiration, it can be seen that clearly, the straddles are very attractive as the average for 25-day moes are 4.79% and 5.62%.

Next we looked at how many days the moves were actually achieved withing those time frames. First, we looked at 4% moves for SPY and 6% for IWM:

So for all 25-day periods since June 1, the move was acheived in 56% of them for IWM and 69% for SPY.

We repeated the test with a slighttly lower threshold. Since any move prior to expiration will have residual value ion the losing side of the straddles. These are the number of times a 3% move was achieved for SPY and 4% for IWM:

For the same 25-day periods, the moves were triggered in 73% and 78% of the all cases. Those are pretty good odds.

So this would apply if the market keep doing what they have been doing (drifting upwards). If the drop, the moves will be achieved much sooner (due to incerased volatility).

If the market changes and goes sideways, then the straddles will lose.

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