Trading the Odds

A statistical approach to profit in the US equity markets, trading the markets like professional card counters are playing Blackjack or expert poker players are playing Poker.

Trading the Odds on Tuesday – April 7, 2009

Trading the Odds on Tuesday – April 7, 2009

Monday’s session played out as expected (see my posting Trading the Odds on Monday – April 6, 2009), with the S&P500 closing lower -0.83% after it had closed higher on 4 consecutive sessions until Friday of last week.

The pre-market strength in ES-mini futures (S&P 500 futures) provided -from the market’s historical and statistical point of view- a more than favorable opportunity on the short side of the market with a significantly above-average probability (true chances that the market will be trading lower -probably even below Friday’s close- at least once after the open) and odds (potential payout and expectancy concerning historical profits and losses made if one would have taken the same trade) due to the fact that the market was anyway expected to trade lower on Monday’s session after posting 4 consecutive higher closes (among others).

On Tuesday’s the market will probably appear somewhat indecisive (but highly volatile) due to the fact that the expected pullback and weakness on Monday’s session might see some intraday follow-through on Tuesday’ session,  but any weakness during Tuesday’s session might provide a buying opportunity (see rationale below), and with the close on tomorrow’s session (Tuesday) we’ll enter into a favorable period for the bullish case  (at least concerning the respective profit factor) due to the fact that the running 4-day summation of the Arms Index (TRIN, ratio of [Advancing Issues/Declining Issues]/[Advancing Volume/Declining Volume], adding up the last 4 sessions) closed below 3 on Friday April 3, 2009, declining 4th days in a row. If more volume goes into advancing issues than into declining issues , the Arms Index (TRIN) closes below 1.0, and if more volume goes into declining stocks than advancing stocks the Arms Index (TRIN) closes above 1.0. It is therefore a proxy for supply and demand and the health (confirmation or non-confirmation) of a market advance.

Since 01/03/2000 there were only 62 occurrences when the 4-day summation closed below 3, and only 11 occurrences since 10/01/2007 (beginning of the current bear market).

Unfortunately at least the sample size since 10/01/2007 is very small (and with several overlapping occurrences as well) to consider any potential conclusions as statistically firm (62 occurrences since 01/03/2000 might provide for more statistical significance), but both time frames share some eye-catching observations at least to be kept in mind:

  • a slightly above average probability (represent the true chances that the event will occur, means number of winning and loosing trades) and odds (potential payout and expectancy, means profit factor) in favor of the short side of the market (pullback) on day one and day two after the signal was triggered, and
  • slightly average probabilities, but significantly above average odds (profit factor regularly at least doubles the respective at-any-time profit factor since 10/01/2007)  in favor of the bullish side of the market from day 3 onward (Wednesday April 8, 2009) over the course of the then following at least two sessions.

The following table shows the SPY‘ behavior and the respective performance of those 62 occurrences since 01/03/2000 over the course of the following couple of sessions after a day when the running 4-day summation of the Arms Index (TRIN, ratio of [Advancing Issues/Declining Issues]/[Advancing Volume/Declining Volume], adding up the last 4 sessions) closed below 3 (day 1 would be represented by today’s session, and marked with a green background sessions 3 and 4 with an above-average profit factor, Wednesday and Thursday in this case):

survey-20090406-1

(click on image to enlarge)

The following table shows the SPY‘ behavior and the respective performance of those 11 occurrences since 10/01/2007 over the course of the following couple of sessions after a day when the running 4-day summation of the Arms Index (TRIN, ratio of [Advancing Issues/Declining Issues]/[Advancing Volume/Declining Volume], adding up the last 4 sessions) closed below 3 (day 1 would be represented by today’s session, and marked with a green background sessions 3 and 4 with an above-average profit factor, Wednesday and Thursday in this case:

survey-20090406-2

(click on image to enlarge)

In addition, SPY (and NYSE) volume was especially light again today and came in at the lowest level of the last 8 weeks (since 02/09/2007), following Friday’s session which already marked an 8-weeks low. In order to uncover if today’s session with an S&P 500 posting a lower open, a lower high, a lower low and a lower close on lower volume might provide a tradable edge, I checked for all occurrences since 10/01/2007 which fulfilled the former conditions.

The following table shows the SPY‘ behavior and the respective performance of those 44 occurrences/trades since 10/01/2007 over the course of the following couple of sessions after a day when the S&P 500 posted a lower open, a lower high, a lower low and a lower close on lower volume:

survey-20090406-3

(click on image to enlarge)

Remarkable is the fact that -especially due to the recent mean-reversion tendency of the market- the edge for tomorrow’s (Tuesday’s) session is -at least concerning the respective profit factor (1.75) which more than doubles the respective at-any-time profit factor (0.85) – provided on the bullish side as well.

Bottom line:

  1. On Tuesday we’ll probably observe an above-average volatile session (see table below and the magnitude of changes concerning intraday high/lows the session after the signal was triggered), but any (significant) intraday weakness early in the session might provide a short-term buying opportunity due to the fact that at least on 14 of the last 15 occurrences the SPY posted an intraday high significantly above the previous session’s close, and the strong breadth during the last week (4 consecutive sessions with a NYSE Advancing Issues/Declining Issues above 2 , running 4-day summation of the Arms Index below 3) might put a short-term floor under the market as well.

The following table shows the SPY‘ behavior and the respective performance on the last 15 occurrences since 10/01/2007 the session after the signal was triggered:

SPY’ performance on the following session
No. Date open high low close close -
open
1 03/27/2009 -2,22% -2,13% -4,47% -3,46% -1,27%
2 03/20/2009 +2,65% +7,27% +2,09% +7,18% +4,42%
3 03/09/2009 +2,06% +6,25% +1,85% +5,96% +3,83%
4 03/02/2009 +1,43% +1,56% -1,36% -0,75% -2,15%
5 02/02/2009 +0,63% +2,16% -0,44% +1,40% +0,77%
6 01/29/2009 +0,51% +1,01% -2,77% -2,03% -2,53%
7 01/12/2009 -0,25% +1,07% -0,86% +0,18% +0,44%
8 01/07/2009 -0,56% +0,46% -1,10% +0,41% +0,98%
9 12/19/2008 +0,44% +0,54% -3,06% -1,28% -1,72%
10 12/11/2008 -2,72% +1,28% -3,12% +1,19% +4,02%
11 12/09/2008 +0,92% +2,08% -0,56% +0,68% -0,23%
12 11/17/2008 -0,37% +2,05% -3,00% +1,88% +2,27%
13 10/27/2008 +4,04% +12,26% +0,69% +11,69% +7,35%
14 10/24/2008 -1,23% +2,84% -3,84% -3,55% -2,35%
15 10/15/2008 +1,41% +5,28% -3,87% +4,17% +2,72%

(‘date': date when the setup was triggered; ’open’, high’, ‘low’ and ‘close’: percentage change on the next session in comparison to the trigger date’s close; close – open’ speaks for itself: any positive percentage change means a close above the open and vice versa)

Successful trading,

Frank

P.s.: WordPress recently implemented a Twitter widget, so I’ll regularly make some intraday updates as well using Twitter (as I already did during today’s session, but unfortunately there seems to be a connectivity issue with Twitter; hope that will be solved soon). If you’re interested in, please have a look at the blog during the trading session as well.


Disclosure
: No positions in the securities mentioned above at time of writing.

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The information on this site is provided for statistical and informational purposes only. Nothing herein should be interpreted or regarded as personalized investment advice or to state or imply that past results are an indication of future performance. Under no circumstances does this information represent an advice or recommendation to buy, sell or hold any security.

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