SPX Short Put 45 DTE s1 signal Options Backtest

5 min read

In this post we’ll take a look at the backtest results of opening one SPX short put 45 DTE position each trading day from Jan 3 2007 through July 30 2021 and see if there are any discernible trends.

We will also explore the performance of the s1 signal. The s1 signal is a boolean (TRUE / FALSE) daily indicator that attempts to identify the days in which short put and short vertical put positions on the S&P 500 are most likely to be profitable at expiration. s1 is based on data from CBOE and S&P Global.

The thesis is that if we limit order entry to only the days in which s1 is TRUE, we will be “swinging at only the best pitches.” On the days when s1 is FALSE, take no action. Existing positions will remain untouched and no new positions will be opened.

To test this thesis we will:

• limit order entry to only the days in which s1 = TRUE to see if the strategy outperforms daily entry in a statistically significant way
• limit order entry to only the days in which s1 = FALSE to see if the strategy underperforms daily entry in a statistically significant way

Performance of the s1 signal is explored in different contexts in other, non-paywalled s1 signal studies.

All this talk about signals is fine and dandy but a signal-based strategy in isolation isn’t helpful. Let’s compare it against the following benchmark and see how it performs:

• SPY buy/hold (total return) | 100% allocation, no leverage

There are 15 backtests in this study evaluating over 36,200 SPX short put 45 DTE leveraged trades.

Let’s dive in!

Summary

The s1 signal yielded a 91% improvement in capital efficiency over “market-agnostic” 45 DTE daily short put strats. The s1 signal was able to:

• realize up to 145% of the total return (yes, more than 100%)
• with 45% fewer trades
• capturing up to 2.6x more premium per trade
• boosting sharpe ratio by up to 4.2x

The s1 signals’s 30D and 50D short put 45 DTE strats outperformed buy/hold SPY with regard to:

• total return
• risk-adjusted return
• annualized volatility
• max drawdown
• max drawdown duration

The s1 signal outperformed a comparable “market agnostic” daily short put strategy with regard to:

• total return (3 out of 5 strats)
• risk-adjusted return (all strats)
• annualized volatility (all strats)
• max drawdown (all strats)
• max drawdown duration (all strats)
• win rate (all strats)
• premium capture (all strats)
• profit spent on commission (all strats)

Daily s1 signal email alert is available as a 7-day free trial and can be enabled / disabled in the subscriber dashboard.

Methodology

Strategy Details

• Symbol: SPX
• Strategy: Short Put
• Days Till Expiration: 45 DTE +/- 17, closest to 45
• Start Date: 2007-01-03
• End Date: 2021-07-30
• Positions opened per trade: 1
• Entry Days: each trading day in which s1 signal = TRUE
• Entry Signal: s1 signal
• Timing 3:46pm ET
• Strike Selection
  • 5 delta +/- 4.5, closest to 5
  • 10 delta +/- 5, closest to 10
  • 16 delta +/- 6, closest to 16
  • 30 delta +/- 8, closest to 30
  • 50 delta +/- 8, closest to 50
• Trade Entry
  • 5D short put
  • 10D short put
  • 16D short put
  • 30D short put
  • 50D short put
• Trade Exit
  • Hold till expiration
• Max Margin Utilization Target (short option strats only): 100% | 5x leverage
• Max Drawdown Target: 99% | account value shall not go negative

Assumptions

• Margin requirement for short CALL and PUT positions is 20% of notional
• Margin requirement for short STRADDLE and STRANGLE positions is 20% of the larger strike
• Margin requirement for short VERTICAL SPREAD positions is the difference between the strikes
• Margin requirement for short CALENDAR SPREAD positions is 20% of the short option (short option expires after the long option)
• Margin requirement for long CALENDAR SPREAD positions is the net cost of the spread (short option expires before the long option)
• Early assignment never occurs
• There is ample liquidity at all times
• Margin calls never occur (starting capital is set using hindsight bias so that max margin utilization never exceeds 100%)
• Apply a 20% discount to displayed results. For example, if a strat depicts a CAGR of 10%, assume that it’ll yield 8% in practice.

Mechanics

• Prices are in USD
• Prices are nominal (not adjusted for inflation)
• All statistics are pre-tax, where applicable
• Margin collateral is invested in 3mo US treasuries and earns interest daily
• Assignment PnL is calculated by closing the ITM position at 3:46pm ET the day of position exit if managed early or 4:00pm if held till expiration
• Commission to open, close early, or expire ITM is 1.00 USD per non-index underlying (eg: SPY, AAPL, etc.) contract
• Commission to open, close early, or expire ITM is 1.32 USD per index underlying (eg: SPX, RUT) contract
• Commission to expire worthless is 0.00 USD per contract (non-index and index)
• Commission to open or close non-option positions, if applicable, is 0.00 USD
• Slippage is calculated according to the slippage table
• Starting capital for short option backtests is adjusted in $1000 increments such that max margin utilization is between 80-100%, closest to 100%, of max margin utilization target
• Starting capital for long option backtests is adjusted in $1000 increments such that max drawdown is between 80-100%, closest to 100%, of max drawdown target
• Positions that have an exit date beyond the backtest end date are excluded
• For comprehensive details, visit the methodology page

Results

Starting Capital

Starting capital requirements of the s1 = TRUE strategies were generally lower than the daily-entry strategies.

Margin Utilization

s1 = TRUE signal yielded a lower average margin utilization vs daily entry.

Hindsight bias was used to maximize Reg-T margin utilization for each strategy. This allows a “best case” scenario for the option strategy to outperform the benchmark.

Also displayed is the date in which each strategy experienced maximum margin utilization.

Premium Capture

s1 = TRUE signal had higher rates of premium capture vs daily entry.

The higher the delta the lower the premium capture for s1 = TRUE. The reverse was true for s1 = FALSE. Daily entry performance was mixed across delta targets.

Win Rate

s1 = TRUE signal outperformed daily entry with regard to win rate.

The higher the delta the lower the win rate.

Monthly Returns

s1 = TRUE signal underperformed daily entry with regard to average monthly return. 5D and 10D were exceptions.

The higher the delta the greater the average monthly return.

Also displayed is the best and worst monthly returns for each strategy.

Max Drawdown

s1 = TRUE signal outperformed daily entry with regard to max drawdown.

The higher the delta the greater the max drawdown.

Max Drawdown Duration

s1 = TRUE signal outperformed daily entry with regard to max drawdown duration.

Max drawdown duration performance was mixed across delta targets.

Average Trade Duration

The average trade duration for all strategies was 44 days.

Compound Annual Growth Rate

s1 = TRUE signal outperformed daily entry with regard to compound annual growth rate. 16D and 30D were exceptions.

The higher the delta the greater the CAGR.

Annual Volatility

s1 = TRUE signal outperformed daily entry with regard to annual volatility.

The higher the delta the greater the annual volatility.

Sharpe Ratio

s1 = TRUE signal outperformed daily entry with regard to sharpe ratio.

Sharpe ratio performance was mixed across delta targets.

The 16D s1 = TRUE signal strategy had the greatest risk-adjusted return among the option strategies.

Profit Spent on Commission

0.55% – the average percent of profits spent on commission across profitable option strategies.

Total P/L

s1 = TRUE signal outperformed daily entry with regard to total P/L. 16D and 30D were exceptions.

Higher delta strategies yielded greater total P/L than lower delta strategies.

Overall

All option strategies were eventually profitable.

Discussion

The results of opening positions only on the days in which the s1 signal = TRUE is compelling. Let’s take a look under the hood and see what’s happening in a bit more detail. In the comparison we’ll look at buy/hold SPY, opening a 16D short put daily, opening a 16D short put only on days when s1 = TRUE, and opening a 16D short put only on days when s1 = FALSE.

Trading exclusively when the s1 signal = FALSE requires significantly more starting capital in order to successfully execute the strategy.

The s1 signal = TRUE strat has 55% ( 1997 / 3629 ) of the number of occurrences vs daily entry.

Looking at strictly the strategy income/expense, 98% ( 1,918,493 / 1,962,913 ) of the profits were captured when s1 = TRUE vs daily entry. Meanwhile, when s1 = FALSE the strategy returned far less than the interest earned on 3mo treasuries.

Capital efficiency is calculated as ( ( strat return / benchmark return ) / ( strat occurrences / benchmark occurrences ) -1 ) * 100.

When we plug in the numbers we get:

• ( ( 1,918,493 / 1,962,913 ) / ( 1997 / 3629 ) -1 ) * 100
• 78% increase in capital efficiency

Risk adjusted return when s1 = TRUE is 2.6x greater than daily entry.

Max drawdown when s1 = TRUE is a fraction of all the other strats. Max drawdown duration is also materially shortened. These are both excellent attributes for mitigating sequence of returns risk.

Limiting order entry to days in which the s1 signal = TRUE yields comparable or greater total return vs a daily-entry strategy while materially lowering max drawdown, max drawdown duration, annualized volatility, commission drag and consequently boosting premium capture and risk-adjusted return.

Think about it for a moment. An investor trades roughly half as often and generates nearly the same total return. There’s no need to swing at every pitch; open a position only when it’s worthwhile.

The s1 = TRUE signal, while suggesting order entry on roughly half the trading days since 2007, is not evenly distributed throughout time. Here’s a breakdown of participation rate by year:

Daily s1 signal email alert is available as a 7-day free trial and can be enabled / disabled in the subscriber dashboard.

Additional Resources

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