Indicator of the Week: Is a Bigger Bounce in the Cards?

The SPDR S&P 500 ETF Trust (SPY) just notched its worst first week ever, but option players could hold the key to a short-term bounce

Senior Quantitative Analyst
Jan 13, 2016 at 7:15 AM
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To say 2016 got off to rough start would be an understatement. It was the worst first week of a year in the history of the S&P 500 Index (SPX). This week, I'll be taking a look at the big down weeks since the 2009 bottom to see how this compares. I'll also be looking at some data to see how investors reacted and if it means anything for us going forward.

​Bouncing Back: Looking at the SPDR S&P 500 ETF Trust (SPY) -- an exchange-traded fund (ETF) that closely corresponds to the S&P 500 Index -- I show below how it has performed after big 3% down weeks. Since I’m looking at it since the 2009 bottom, I would expect some pretty good returns, especially after pullbacks, and that's pretty much what the table shows. The average return beats the typical returns in each of the time frames.

However, the percent positive is not higher across the time frames. What I’m seeing is the higher returns are due to the fact that when the market rallies after these down weeks, it rallies very strongly. The losses are also more severe after these big down weeks (in other words, more volatility overall), but on a relative basis, the rallies are stronger than the times when the market falls.


SPY BTO Options During the Week: I thought the buy-to-open put/call ratio on the SPY would be revealing about how retail option players were reacting to the market turmoil. We have data from three different exchanges disclosing option volume that is buy-to-open (BTO).  BTO volume is handy because it disregards volume by option players who are closing their positions. A higher pace of puts being bought than calls indicates more panic in the markets. Our contrarian philosophy would predict the more panic in the market, the more bullish the implications going forward.   

You can see in the first table above there have been 23 times since the 2009 bottom where the SPY fell by at least 3% (not including the recent occurrence). I broke these down by whether the BTO put/call ratio was below two or above two during the week.  When I actually run the numbers, the results are pretty mixed. In the short term -- out to two weeks -- our theory holds that the higher ratio leads to better performance going forward. However, when you go out any further, the results are pretty inconclusive. Also, the BTO put/call ratio for this recent week was 1.97, which is so close to the 2.0 threshold that you can't really conclude that sentiment is overly bearish or bullish relative to other down weeks.


Finally, below is a table showing the last ten times the SPY fell by at least 3% or more in a week. The frequency of these weeks might be something to keep an eye on.  We've now had five occurrences in about the past five months, going back to August of last year. There were only three of these big down weeks from 2012 through 2014. The increased volatility can be unnerving. However, the BTO put/call ratio is encouraging in the fact that the recent week saw the highest ratio since 2014. As mentioned above, the higher ratio indicates more fear -- and also it could mean more investors are now hedged against future losses, so pullbacks going forward will be met with less selling pressure.



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