Index Spread Traders

[bone]

I'm not looking to arbitrage it, but I would like to understand this in terms of orderflow.

Your best bet is to do serious statistical correlation analysis.

The highest positive and negative correlators between a particular index and one or more instruments will provide the insight for any lead / lag opportunities.

But I must caution you - unless you are automated and with a very good ($$$) ECN - your ability to take advantage of order flows is nil. None. It is already being arbitraged away by seriously capitalized proprietary trading firms. Arbitrageurs are leading the order flows.

 

[qlai]

So for your question.

HFT CASH AND CARRY ARBITRAGE.

Let's look at the basics of the arbitrage transaction, as I see it.

1) GLOBEX goes bid, and stays bid relative to CASH.
2) HFT simultaneously offer on GLOBEX and bid in CASH.

I don't really understand what this means. I don't think you can capture arbitrage opportunities with passive orders.

Let's use simple examples:
Major news hits AAPL mid day causing the stock to jump 10%. I assume the index will be bought up to reflect this.
Another example - positive economic news comes out and quick traders use index futures to establish long positions pushing it up. I assume stocks need to be bought up. That's the reason you often see excessive $TICK readings during such times as programs start lifting offers.

Now those are extreme examples. But what happens when aggressive futures orders on ES push it down with no news? Arbitragures need to make a decision, it seems to me, is this noise or real move? If noise, buy up index until it's back at fair value. If it's real, sell stocks until they are in synch with the indices.
Just my thoughts, so very possibly nonsense.

 

[bone]

I don't really understand what this means. I don't think you can capture arbitrage opportunities with passive orders.

Let's use simple examples:
Major news hits AAPL mid day causing the stock to jump 10%. I assume the index will be bought up to reflect this.
Another example - positive economic news comes out and quick traders use index futures to establish long positions pushing it up. I assume stocks need to be bought up. That's the reason you often see excessive $TICK readings during such times as programs start lifting offers.

Now those are extreme examples. But what happens when aggressive futures orders on ES push it down with no news? Arbitragures need to make a decision, it seems to me, is this noise or real move? If noise, buy up index until it's back at fair value. If it's real, sell stocks until they are in synch with the indices.
Just my thoughts, so very possibly nonsense.

AAPL has the second highest weighting in the NASDAQ composition so of course QQQ and NQ will trade practically tic-for-tic with it.

Your comment about ‘arbitragers needing to make a decision’ about what is ‘noise’ and what is ‘real’ has absolutely no basis in reality. Zero F***s given. An arbitrage is by definition a spread trade between products with a virtually perfect correlation. When that spread is narrow they buy it and when it’s wide they sell it. And those variances can be measured in fractions of a second typically.

If you are so incredibly fortunate to find a legitimate arbitrage that lasts for seconds - you ride it hard because it won’t last long.

If someone wants to sell 100,000 NQ contract at market - arbitragers will take as many as they can hedge.

 

[traderjo]

OP was about spread trading ES/YM ES/ NQ etc as a spread in correct ratio ( as recognized by CME for margin purposes, Futures to Futures spread not to be confused with ETF to ETF or Options to Options)
How did this discussion went towards HFT? or Spread of Index future / Individual Index component !

So the questions in my mind are simple
1) Can one trade these pairs as a "Exchange recognized spread with it's own book? like ES calendar spread or one has to leg in?
2) Is it worth trading intraday at retail level?
3) Is it worth trading long term?
4) If it is exchange recognized then will all brokers treat it as such and not issue margin call on one leg

 

[bone]

OP was about spread trading ES/YM ES/ NQ etc as a spread in correct ratio ( as recognized by CME for margin purposes, Futures to Futures spread not to be confused with ETF to ETF or Options to Options)
How did this discussion went towards HFT? or Spread of Index future / Individual Index component !

So the questions in my mind are simple
1) Can one trade these pairs as a "Exchange recognized spread with it's own book? like ES calendar spread or one has to leg in?
2) Is it worth trading intraday at retail level?
3) Is it worth trading long term?
4) If it is exchange recognized then will all brokers treat it as such and not issue margin call on one leg

I would encourage you to carefully review the CME links on Index Spreads I provided at the beginning of this thread.

1. I’m not aware of an exchange supported spread for index spreads - but I think it’s a fantastic idea whose time has come. AFAIK you’ll have to leg into then out of the spread.

2. I have a client who runs a modest HF and trades them intraday - but his slippage costs are quite low. He also carries substantial index spread positions.

3. They make a fantastic swing trading opportunity. If you trade futures you will receive an exchange margin credit on your statement.

 

[traderjo]

Thanks Bone
so the margin offset will only kick in after the 2 legs are filled?

1) swing trading such spreads = co location or autospreader wont be of that importance? , but legging in to and out required.
2) day trading these spreads = co location or autospreader in required? importance , but legging in to and out required.

by the way Your friend's HF does it only trade such spreads or + other things? and is it open to public / CTA? PM if you can or disclose here for everybody might be interested in investing as compared to trading themselves!

 

[bone]

Thanks Bone
so the margin offset will only kick in after the 2 legs are filled?

1) swing trading such spreads = co location or autospreader wont be of that importance? , but legging in to and out required.
2) day trading these spreads = co location or autospreader in required? importance , but legging in to and out required.

by the way Your friend's HF does it only trade such spreads or + other things? and is it open to public / CTA? PM if you can or disclose here for everybody might be interested in investing as compared to trading themselves!

Yes, you only receive futures margin offset credit when you are long one index leg and short the other index leg. Otherwise - without a hedge, it’s just flat price directional risk.

You would not require automation and a high speed ECN for swing trading. You can manually leg into the position. You want to be very fast about legging because the idea is to profit from the divergence or convergence in the spread differential price and NOT from open leg risk.

I would not recommend that you day trade these - much more money in it swing trading

 

[Real Money]

1) Can one trade these pairs as a "Exchange recognized spread with it's own book? like ES calendar spread or one has to leg in?
2) Is it worth trading intraday at retail level?

The answer to (1) is that there is no book for index spread orders on CME/CBOT. There is significant margin relief ~75% reduced margin.

The answer to (2) is that in my opinion it is worth trading them. However, it is not easy and requires you to understand how these markets work in relation to each other. Also, these spreads can be an interim position in between outright trades (CROSS HEDGE).

Look at today's chart of NQ/RTY spread.

This is an NQ/RTY spread with a weighting long 1 NQU9 and short 2 RTYU9. ES is in blue and the spread is in white. ES values on left and the cash value (notional) of the spread is on the right. Lower chart is detrended against the red line. The red line is a polynomial regression on the spread.

This spread had significant volatility during the open and subsequent rally in S&P 500.

This is a market cap spread between the top 100 non financial stocks and the largest of the small cap stocks. Strong buying or selling in the ES greatly affects the RTY contract (typically).

The way I would trade this.

(1) Put the spread on at the open.
(2) At the top of the rally in the spread I would check if ES is bullish or bearish. Today seems bullish at 9:55AM. In this case buy back the RTY contracts.
(3) So you are long NQ while market is rallying and also you made money on the spread rally!

I like to trade this way.

 

[Real Money]

not looking to arbitrage it, but I would like to understand this in terms of orderflow.

Hi qlai. This is the big secret that everybody doesn't understand. There are basically two things you need to know (at the very least).

There is the PREM. This is the spread between the ES and cash. And then there is program trading on NYSE and NASDAQ.

(1) If the ES bid is raised above the cash stocks (enough to provide arbitrage opportunity) then the HFT will offer at the bid and lift offers in cash.

(2) If the stocks (Island/BATS/ARCA) are bid up (enough to provide arbitrage opportunity) then HFT firms will hit the bid in cash market and lift offer on ES.

------------------

(1) means that buyers on GLOBEX made the index go UP.
(2) means that buyers in CASH made index go UP.

(1) causes Island/BATS/ARCA to be repriced higher while (2) causes GLOBEX to be repriced higher!

This is because the markets are linked at microsecond timescale!

The secret is that the smartest people ($$$$$) are watching this very closely!


Here is a link to an interview with somebody who talks about the PREM and program trading.

https://programtrading.com/tradingmarkets.htm

 

[traderjo]

The answer to (1) is that there is no book for index spread orders on CME/CBOT. There is significant margin relief ~75% reduced margin.

The answer to (2) is that in my opinion it is worth trading them. However, it is not easy and requires you to understand how these markets work in relation to each other. Also, these spreads can be an interim position in between outright trades (CROSS HEDGE).

Look at today's chart of NQ/RTY spread.
View attachment 208458

This is an NQ/RTY spread with a weighting long 1 NQU9 and short 2 RTYU9. ES is in blue and the spread is in white. ES values on left and the cash value (notional) of the spread is on the right. Lower chart is detrended against the red line. The red line is a polynomial regression on the spread.

This spread had significant volatility during the open and subsequent rally in S&P 500.

This is a market cap spread between the top 100 non financial stocks and the largest of the small cap stocks. Strong buying or selling in the ES greatly affects the RTY contract (typically).

The way I would trade this.

(1) Put the spread on at the open.
(2) At the top of the rally in the spread I would check if ES is bullish or bearish. Today seems bullish at 9:55AM. In this case buy back the RTY contracts.
(3) So you are long NQ while market is rallying and also you made money on the spread rally!

I like to trade this way.

DO you use any other tool to study such pairs?
There are tools to study pair trading in stock pairs ...and other spreads like seasonal calnder commodity spreads but for Index spreads not much info out there