Quadruple Witching Expiration Week Looks Good!
by Ian Harvey
September 17, 2012
Introduction
Option traders are aware that this coming Friday is the third Friday of the month, meaning options on equities expire. Additionally, it's a quadruple-witching expiration week, meaning stock index futures, stock index options, and single stock futures (SSF) also expire. Therefore, let us take an historical look at what expiration week has meant for the market and certain stocks.
Quadruple-Witching Expiration Week
The table below summarizes Standard & Poor's 500 Index (SPX) weekly returns since 2010. Expiration weeks have been weak overall during this timeframe, but quadruple witching expiration weeks have actually been quite bullish. Eight out of 10 have been positive, and these weeks average a return of almost 1%.
Also notable is the standard deviation of returns. It is often said that quadruple witching expirations have the potential for increased volatility, due to the abundance of contracts expiring and the implications of many traders closing positions and opening new ones. However, the week of a quadruple witching expiration has been less volatile than non-expiration weeks.
’Standard Deviation’ is a measure of the dispersion of a set of data from its mean. The more spread apart the data, the higher the deviation. Standard deviation is calculated as the square root of variance.
In finance, standard deviation is applied to the annual rate of return of an investment to measure the investment's volatility. Standard deviation is also known as historical volatility and is used by investors as a gauge for the amount of expected volatility.
Therefore, standard deviation is a representation of the risk associated with a given security (stocks, bonds, property, etc.), or the risk of a portfolio of securities. Risk is an important factor in determining how to efficiently manage a portfolio of investments because it determines the variation in returns on the asset and/or portfolio and gives investors a mathematical basis for investment decisions. The overall concept of risk is that as it increases, the expected return on the asset will increase as a result of the risk premium earned - in other words, investors should expect a higher return on an investment when said investment carries a higher level of risk.
For example, since standard deviation is a statistical measurement that sheds light on historical volatility, a volatile stock will have a high standard deviation while the deviation of a stable blue chip stock will be lower. A large dispersion tells us how much the return on the fund is deviating from the expected normal returns.
Another reason for optimism heading into the week ahead is that September, specifically, has been quite bullish. Below is shown the last 10 September expiration weeks. There's quite a streak going, with the last six of them being positive (five by more than 1%). Even including the very bad expiration-week loss of nearly 5% in 2002, September expiration week averages a 1.08% gain.
Individual Stocks and Quadruple Witching
There are individual stocks that benefit from quadruple-witching expiration, but there is no concrete theory as to why some stocks would outperform others during quadruple-witching expiration weeks.