I have created a trading strategy that seems to be about 68-70% accurate. It involves trading the SPX on a daily basis. Basically, my strategy identifies for the day if the SPX is going up or down. No targets in sight, just an up or down. From there it buys the appropriate direction of the index at open and at the end of the day sell it.
My system has been pretty accurate but where I'm getting killed is on the bid/ask spreads. Initially I was using Canadian ETF's (HSD and HSU) to buy the appropriate direction for the day. They are both 2x ETF's. At the end of the day my direction would be correct, but in *some* situations I would not get the desired financial outcome. In particular the days that the market goes up 0.3% or something like that and it gapped in the morning.
Then I started not buying right away noticing that there was a retracement (usually) in the morning after opening so I waited a little bit. It helped, but then there were some days where it gapped up but then didn't retrace so my overall numbers didn't improve much because I ended up going into those too late and missing some of the gains.
Then I started using options, just normal calls/puts based on the direction. It's been going okay with that, at least the bid/ask spread isn't as much of an issue because of home much more responsive they are. However, I did not properly anticipate the amount of volatility involved and after a couple of days of doing 1-2 contracts, I bought 50 contracts (25, went down and bought 25 more). I managed to come out with my head above water (on FOMC day) but I almost had a heart attack that day with the ride considering at 2pm when the announcement hit, I was down a LOT! It then started coming back up and I sold my second 25 contracts for a small profit and held the original to end of day neting about 20% for the day.
As a result the next day I said no more with that number of contracts... Go for the smaller profits, but then I mis judged the next day and bought 10 and 10 (when it went down). I was not as lucky and it did not come back above water on that day and I was down, ultimately chewing up my profits from the previous day plus about 3-4% more.
It's a small account that I'm starting with. There is only about $13K in the account. I'm thinking that the appropriate number of contracts is 2-3 contracts ultimately targeting about $200-$300 per day. Yesterday I bought 2 contracts, was correct again with the direction but sold mid-day. So, I cleared about half the profit that I could have made if I had of held it to EOD but I was a little gun-shy from the day before so I wanted to lock in my profits early setting a trailing stop on the put which triggered around 11am or so.
So, I'm curious about my risk management plan going forward. I'm comfortable with the risk associated with HSD and HSU because there is no chance that those are going to $0 by end of day. If that happened, I would have a lot more problems than my account value. However, I am not comfortable with the losses resulting from the bid/ask spreads on those ETF's. I am very confident that my strategy will work long term but there will be down days in there (about 70% accurate). I've backtested it pretty thouroughly using excel and historical market data. So, my direction picking I think will be pretty good but I need to improve my entry/exits.
How can I properly estimate what the price of the option should be in the morning. For example, lets say that the S&P has gone up through after hours trading and is looking at gapping up 10 pts. Lets also assme that my system has indicated (in the morning) that the direction for the day will be up. How can I estimate what the calls will (or should) be priced at when the market opens?
Also... Does it sound like utilizing 2-3 contracts per day sounds reasonable as far as risk management. I know that 20-50 is definitely too much!
My system has been pretty accurate but where I'm getting killed is on the bid/ask spreads. Initially I was using Canadian ETF's (HSD and HSU) to buy the appropriate direction for the day. They are both 2x ETF's. At the end of the day my direction would be correct, but in *some* situations I would not get the desired financial outcome. In particular the days that the market goes up 0.3% or something like that and it gapped in the morning.
Then I started not buying right away noticing that there was a retracement (usually) in the morning after opening so I waited a little bit. It helped, but then there were some days where it gapped up but then didn't retrace so my overall numbers didn't improve much because I ended up going into those too late and missing some of the gains.
Then I started using options, just normal calls/puts based on the direction. It's been going okay with that, at least the bid/ask spread isn't as much of an issue because of home much more responsive they are. However, I did not properly anticipate the amount of volatility involved and after a couple of days of doing 1-2 contracts, I bought 50 contracts (25, went down and bought 25 more). I managed to come out with my head above water (on FOMC day) but I almost had a heart attack that day with the ride considering at 2pm when the announcement hit, I was down a LOT! It then started coming back up and I sold my second 25 contracts for a small profit and held the original to end of day neting about 20% for the day.
As a result the next day I said no more with that number of contracts... Go for the smaller profits, but then I mis judged the next day and bought 10 and 10 (when it went down). I was not as lucky and it did not come back above water on that day and I was down, ultimately chewing up my profits from the previous day plus about 3-4% more.
It's a small account that I'm starting with. There is only about $13K in the account. I'm thinking that the appropriate number of contracts is 2-3 contracts ultimately targeting about $200-$300 per day. Yesterday I bought 2 contracts, was correct again with the direction but sold mid-day. So, I cleared about half the profit that I could have made if I had of held it to EOD but I was a little gun-shy from the day before so I wanted to lock in my profits early setting a trailing stop on the put which triggered around 11am or so.
So, I'm curious about my risk management plan going forward. I'm comfortable with the risk associated with HSD and HSU because there is no chance that those are going to $0 by end of day. If that happened, I would have a lot more problems than my account value. However, I am not comfortable with the losses resulting from the bid/ask spreads on those ETF's. I am very confident that my strategy will work long term but there will be down days in there (about 70% accurate). I've backtested it pretty thouroughly using excel and historical market data. So, my direction picking I think will be pretty good but I need to improve my entry/exits.
How can I properly estimate what the price of the option should be in the morning. For example, lets say that the S&P has gone up through after hours trading and is looking at gapping up 10 pts. Lets also assme that my system has indicated (in the morning) that the direction for the day will be up. How can I estimate what the calls will (or should) be priced at when the market opens?
Also... Does it sound like utilizing 2-3 contracts per day sounds reasonable as far as risk management. I know that 20-50 is definitely too much!
