Cash In on the Calendar With the SPY ETF

One of my favorite ways to find a trade idea is using statistical analysis to see whether a stock or fund moves in a predictable way. If a stock or fund experiences regular changes every year around the same time, that’s “seasonality” at play — and one of the first things I do when looking for a trade is evaluate seasonality.

Now that we’re well into January, I decided to look at early-year performance across the board. My objective: Find seasonal movements in stocks or funds that showed either an increase or decrease 70% of the time. Here, I’m evaluating a 15-year period, looking for average absolute movements of more than 1%.

The S&P 500, represented by the SPDR S&P 500 ETF Trust (NYSEARCA:SPY), showed some interesting results for the latter half of Q1 and the beginning of Q2 when looking at the past two decades.

Historically, the SPY shows strong seasonality in March; the ETF rises nearly 75% of the time at an average increase of 1.9%. Additionally, the SPY increases in April 75% of the time at an average increase of 2.3%. (February is pretty dead, however, rising 60% of the time, but overall averaging no significant movement.)

SPY ETF

The Dow Jones Industrial Average, represented by the SPDR Dow Jones Industrial Average ETF (NYSEARCA:DIA), also shows seasonal tendencies in March; the ETF has climbed 75% of the time over the past 17 years. Likewise, the DIA increases 76% of the time in April at an average clip of 2.8%, but doesn’t do much in February, gaining 60% at a negligible pace.

For what it’s worth, the best-performing sector within the S&P 500 is industrials, represented by the Industrial SPDR (XLI), which performs spectacularly in March, up 81% of the time since 1998 at an average gain of 2.5%.

So, how do you take advantage of all these numbers?

I like the calendar call spread — an options strategy that can leverage seasonal trends. The calendar call spread consists of a short call option and long a second call option with a more distant expiration date. The strategy most commonly involves calls with the same strike (horizontal calendar call spread), but can also be done with different strikes (diagonal calendar call spread). This strategy works if you are looking for the stock to consolidate during the life of the near-term option, then move higher during the life of the far-term option.

For example, as of this writing, you could sell a Feb 2015 $207 call on SPY for $2, and simultaneously buy an Apr 2015 $207 call for $3.70, for a net debit of $1.70. The maximum risk on the trade is the net debit that I would pay, while the maximum upside is unlimited. The maximum payout for the trade would come if the ETF price remains below $207 until the February option expires on Feb. 20, 2015, then climbs higher during March and April.

If the price of the SPY increases from the current price around $203, by the average return seen in March and April (4.2% – 1.9% = 2.3%), the target price of the SPY would be $211.50. That would equate to a gain of $2.80 ($211.50 – $207 strike price – $1.70 premium). This would generate a 65% profit on your investment.

Similar trades can be made using the DIA and the XLI.

As of this writing, David Becker did not hold a position in any of the aforementioned securities.

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