Your Trading Options On The Third Friday of the Month

Every so often, someone announces a pattern in securities or commodities market data that is worth paying attention to, until that pattern disappears, like Good Humor bars in hell. This happens as Joe Grab a Cup gets sly, and demand outstrips supply of the loophole, trick, or edge. And then, it's yesterday's headline.

Like every trick of the trade, it works until it doesn't. "The Dogs of the Dow" falls into this group of calendar trade tricks. That's where you pick the Dow stock that underpreformed the group, load the boat in Janurary and out pace the other Dow stocks by the end of the year (which is nice for taxes too, if you sell the year later). Or put another way:

Looking for a simple way to select high dividend yield Dow stocks for your investment portfolio? Try Dogs of the Dow. Read on and you will discover a technique that would have given you a 17.7% average annual return since 1973! That's not bad, especially considering that the Dow Jones Industrial Average overall return was 11.9% during that same period. (As reported in U.S.
News & World Report, July 8, 1996)

After the guy (Mike O'Higgins) wrote the book (Dogs of the Dow,1991), and a few brokerage firms put together Unit trusts to scalp the effect (Pru), it mostly dried up a bit.

There is research showing that prices gain the first 4 days of each month (suggesting a good time to sell), and a weekend effect, and a Janurary effect, etc.. But for a much better review of the subject, visit two links: First, Robert Kunkel's article in the Journal of Economics and Finance, Spring 2000, which is (or was) online here. And Second, "The Complete Idiot's Guide to Market Timing", by Scott Barrie, which is online, here.

Nevertheless, there is a "new one", which is not really new if you trade options and have been paying attention at all. What's new is the idea that it is common knowledge now, thanks to John Crudele.

Crudele, writing in the New York Post Biz section, has chosen to do a Ralph Nader on the surge effect that takes place as options expire each month, which amounts to this: the week of options expirations usually (more often than not) amounts to a 100% or more gain in the broad market. He writes:

Bill King of Ramsey King Securities and I noticed this tendency a while ago, so I asked researcher Michael Panzner to run the numbers. Panzner, who has written an upcoming book for publisher Kaplan Business called "Financial Armageddon," was asked to go back only one year in his research, although the trend was noticeable before that.

What we found was that since March 2006, the market 58 percent of the time has rallied at least 100 points during one or more of the five trading days before options and future contracts expire, which happens on the third Friday of every month.

Tuesday's gain was barely triple-digit - just over 102 points with the final push coming during run-off trades after 4 p.m. At its peak on Tuesday the market was up 105 points.

See, here.

At any rate, Crudele's three digit moves put me in mind of the headlines back in the 90's (when TYH was selling securities), and the indexes were said to be making these new massive and shocking moves. "Dow makes a three digit move in one day!", etc. Some of our clients were concerned that this meant much more risk, and so, they would have to check with the wife, or call their CPA, read more about it, or check with their Lexis mechanic. We had no rebuttal for them for a hot second, as the media machine was killing us and causing a panic effect-- dramatic moves show great risks... etc. That's until we began pointing out that a 100 point move on Dow 5000, or 6000 or 7,000 is nothing like a 100 point move on Dow 900, or 800, or 700. It's the percentage that counts. Moreover, if you bought JNJ when the Dow was down there in three point land, you'd be retired and calling us to put standing orders in to buy municipal bonds like Poppy! Sometimes, (3 in 10 times), this rebuttal even worked.

While selling into stregnth always makes sense, and Crudele is the best no-bullshit business reporter we can find out there, a word to the wise may be in order on the options expiration week surge effect: a three digit move is less than 1 percent of Dow 12,000.