SPY s1 signal Equity Backtest

4 min read

In this post we’ll take a look at the backtest results of using the s1 signal to open (or not) a long and/or short SPY position each trading day from Jan 3 2007 through Apr 29 2022 and see if there are any discernible trends.

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.

Existing research on the s1 signal suggests there is a material PnL, sharpe and max-drawdown advantage when selling put options when the signal is true, and when buying put options as a left-tail hedge against SPX decline when the signal is false.

Theses:

1. if we open and hold a long SPY position only on the days in which s1 is TRUE, we will outperform a buy and hold SPY portfolio with regard to PnL, sharpe, and max drawdown. On days when s1 is FALSE, close any long SPY position and go to cash.
2. if we open and hold a short SPY position only on the days in which s1 is FALSE, we will outperform a buy and hold SPY portfolio with regard to PnL, sharpe, and max drawdown. On days when s1 is TRUE, close any short SPY position and go to cash.
3. if we combine the first two ideas, we will outperform either idea on its own with regard to PnL, sharpe and max drawdown

To test these theses we will:

1. Review the s1 signal each morning.
   • If s1 signal = TRUE, open a long SPY position at market open and hold this position until the next morning.
   • If s1 signal = FALSE, if there’s an existing long position, close it at market open. Otherwise, take no action.
2. Review the s1 signal each morning.
   • If s1 signal = FALSE, open a short SPY position at market open and hold this position until the next morning.
   • If s1 signal = TRUE, if there’s an existing short position, close it at market open. Otherwise, take no action.
3. Review the s1 signal each morning.
   • If s1 signal = TRUE, if there’s an existing short position, close it at market open and open a long SPY position.
   • If s1 signal = FALSE, if there’s an existing long position, close it at market open and open a short SPY positions.

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 3 backtests in this study evaluating over 7,700 SPY equity trades.

Let’s dive in!

Summary

Thesis 1: opening and maintaining a long SPY position only on the days in which s1 is TRUE, and on days when s1 is FALSE, closing any long SPY position and going to cash outperformed a buy-and-hold SPY portfolio with regard to:

• Total PnL
• Sharpe ratio
• Annualized volatility
• Max drawdown
• Max drawdown duration
• Capital efficiency: 193% | 2.9x improvement

Thesis 2: opening and maintaining a short SPY position only on the days in which s1 is FALSE, and on days when s1 is TRUE, closing any short SPY position and going to cash outperformed a buy-and-hold SPY portfolio with regard to:

• Annualized volatility
• Capital efficiency: N/A | strategy had a negative return

Thesis 3: closing any short SPY position and opening and maintaining a long SPY position only on the days in which s1 is TRUE, and on days when s1 is FALSE, closing any long SPY position and opening and maintaining a short SPY position outperformed a buy-and-hold SPY portfolio with regard to:

• Total PnL
• Max drawdown
• Capital efficiency: 20% | 0.2x improvement

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: SPY
• Strategy: Long/Short Equity
• Days Till Expiration: N/A
• Start Date: 2007-01-03
• End Date: 2022-04-29
• Positions opened per trade: 1
• Entry Days: each trading day in which s1 signal = TRUE
• Entry Signal: s1 signal
• Timing: 9:30am ET
• Strike Selection: N/A
• Trade Entry Delta: N/A
• Trade Exit: s1 signal
• Max Margin Utilization Target (short option strats only): N/A | 1x 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, where the short option expires after the long option, is 20% of the short option
• Margin requirement for long CALENDAR SPREAD positions, where the short option expires before the long option, is the net cost of the spread
• Margin requirement for short IRON CONDOR positions is the difference between the call-side strikes if both sides are the same width, otherwise margin requirement is the width of the wider side
• 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
• Option positions are opened at 3:46pm ET
• Option positions are closed at 3:46pm ET (4:00pm if closed on the date of expiration)
• Commission to open, close early, or expire ITM is 1.00 USD per non-index underlying (eg: SPY, IWM, AAPL, etc.) contract
• Commission to open, close early, or expire ITM is 1.32 USD per index underlying (eg: SPX, RUT, etc.) 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

Overall

Starting Capital and Leverage

Win Rate Stats

Profit and Loss Stats

Performance Stats

Risk Management

Discussion

The results of opening and maintaining positions only on the days in which the s1 signal = TRUE is compelling. Performance over shorter time periods may underperform, such as the two year range from Jan 1 2016 to Dec 31 2017.

Distribution of s1 signals

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:

Up-to-date s1 signal historical boolean values and s1 signal historical raw + boolean values are available for download in the trade log store.

The daily s1 signal email alert is available as a 7-day free trial. Start making data-driven trades today!

Additional Resources

Trade Log Bundles

Visit the trade log store and download the data used in this and other backtests.

Private, Custom Backtests

Discover your edge with private, custom backtests for as little as 99 USD. Learn more or contact us for a quote.

Quality, Custom Trade Logs

With support for over 5,000 symbols, build institutional-quality custom trade logs for as little as 9.99 USD. Learn more.

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Consultations

Schedule a consultation to review your specific scenario and get direct answers to your money questions.

Data Used in Study

This strategy uses historical SPY data from Yahoo! Finance. A copy of the zipped CSV file is here. The latest version of the historical s1 signal true/false data can be purchased for $49 USD. Contact me for a purchase link.