Hackett Advisors in the News

Trading The Calendar

Published 12/15/2008

When it comes to trading, planning ahead makes all the difference. Knowing the most important dates of the trading calendar can save you a lot of headaches, and a little research goes a long way in setting up your trading plan and successfully managing your expectations.

Two of the most important dates in the trading calendar are first notice day and last trading day. First notice day is the first date that users will get notified that they have been assigned a delivery. Because most traders don’t want to hold the physical product, it’s important to know when the first notice day is so you don’t get stuck in a position. Otherwise, on first notice day “you can continue to trade the contract, but if you hold the futures, you may be forced to take delivery of the underlying product,” explains Pat Shaughnessy, principal at Zen-Fire, adding, “Anyone who is stuck in a position that needs to get out will pay a premium to reach for the wider than normal bid or offer.”

Andrew Wilkinson, senior market analyst at Interactive Brokers, says most speculators ought to avoid dabbling in contracts towards expiration.

Shaughnessy notes that the majority of the volume usually moves away from a contract on the first notice day, and traders do not want to take delivery in most cases so they will begin to trade the next active month. When speculators roll, selling the front month of the contract and buying the next month out, it can depress the front month and pump up the next month, thereby widening the spread between the front month and the next contract out. “When volume moves to another month, traders with positions in the deliverable month can find themselves dealing with extremely wide bid/ask spreads and unusual movement due to liquidation of positions before delivery can occur,” Shaughnessy says.

Shawn Hackett, president of Hackett Financial Advisors, says “If a speculator waits too long to get to first notice, you could see an underperforming front month contract in relation to a deferred contract. I want to be out within 30 or 35 days before first notice so I don’t get caught in the performance roll that happens in that last 30 days.”

Independent trader William Purpura adds, “There is always quite a bit of spread trading in the week prior to first notice day in the major delivery months.”

Traders also need to be aware of the last trading day for each contract. “Last trading day can either be very calm or very volatile as the number of contracts outstanding is usually very low and trading volume is very thin. This can lead to wild price swings if holders of long or short positions do not wish to or cannot make or take delivery. In most cases, the last trading day has little activity as most traders are already out of that particular contract,” says Mike Zarembski, senior commodity analyst at optionsXpress.

The first notice day affects trading more than the last trading day because of the spread activity, Purpura says.

First notice days and last trading days for each contract are listed in Futures Dateline section (see Dateline). “Be familiar with your vendor’s product specifications. Be able to locate your broker’s product specifications on their Web site or platform and pay particular attention not only to the current month’s volume, but also to the next month’s volume to give you a heads up so you don’t get caught short or long,” Wilkinson says.

For options, it’s also important to keep expiration dates in mind. On an expiration date, the option and the right to exercise it cease to exist. On expiration day, a trader holding in-the-money options or options just out of the money can choose to take from several scenarios. For example, Zarembski says that if a trader is holding a deep in the money option (either a call or put), the trader needs to decide if he wishes to have the futures position in his account after expiration or if he wishes to offset the option position before expiration. “He could also buy or sell a futures contract (depending on his option position) against his option position and after expiration. The new futures position will offset with his current futures position,” he says.

If a trader is holding a well out-of- the-money option position, “normally the trader will do nothing and let the option expire worthless. However, some more conservative traders who are holding a short options position may try to buy back the options at a nominal price,” Zarembski says.

Purpura says option expiration days will sometimes result in increased volume and volatility during the last hour of open outcry.

Check exchange Web sites for expiration days. Wilkinson says it’s important to know your broker’s procedure on exercising in the money options, whether you are responsible for exercising them or whether your broker will do it for you. That information also should be available on your broker’s Web site.

Report releases

Economic reports are some of the biggest market movers for futures and options. The employment situation report, released by the Bureau of Labor Statistics, includes the number of people unemployed as a percentage of the labor force, nonfarm payroll figures and figures on the average work week. It is released the first Friday of each month and can lead to wild market swings if there are any surprises.

Gross Domestic Product (GDP), the broadest measure of economic activity, is released quarterly by the Bureau of Economic Analysis and also can move the market. Traders also should keep an eye on the Consumer Price Index (CPI) and the Producer Price Index (PPI), both released monthly by the Bureau of Labor Statistics.

Changes in the CPI represent the rate of inflation and help the Fed formulate its fiscal policy, while PPI measures the average change over time in the selling prices received by domestic producers for their output. Statements from Fed interest rate decisions and Fed testimony provide some of the best clues about Fed policy.

You should know what is expected in the main report and watch for revisions since the market can react to revisions as well as the report itself. Anyone day-trading or trading from a shorter-term perspective should be flat with no open orders going into employment, GDP, CPI and PPI.

While there may be a temptation to trade before a report — especially if you think that you may have some inside information — often the market reacts in a whipsaw fashion following these reports. Unless you have a lot of room for error, the market will fill your order and stop loss (in either direction) before settling on a direction (see “Widowmaker”). If you are a retail trader you probably aren’t executing on the fastest trading platforms. Proprietary trading desks pay millions of dollars to get a few hundredths of seconds advantage for situations like these.

“Traders should expect extreme moves and longer fill times when trading on economic releases,” Shaughnessy says. “There will be large gaps where stops may not be filled and market orders may be filled at extreme prices. If speculating on a directional move, traders should have their orders in well before the scheduled release and be prepared for no fill or fills at the extremes. In most cases, it is usually best to wait for a brief period of time before trading after a release.”

Wilkinson says traders also should watch the weekly Commitment of Traders (COT) reports released by the Commodity Futures Trading Commission. The COT reports show changes in open interest from the professional or trade perspective and the retail perspective, and he says some people use them as a contrarian indicator.

Hackett recommends looking at weekly export numbers for early trends in exports. “If you see the four-week moving average starting to rise, that’s an early warning sign that demand’s picking up. If the four-week moving average [starts] moving up, we’re starting to see the physical desire to buy grains improve and physical demand always leads price,” he says.

Experts are split about the effect of economic reports in the midst of current volatile market conditions. Hackett says that economic reports mean more than they used to in today’s commodities markets. “Right now, we’re in a synchronous market. Stocks and commodities are moving in unison, which is very unusual. Normally those macro economic reports don’t mean much to the grain markets, but in this environment they mean a great deal,” he says.

On the other hand, Purpura thinks current market conditions are taking the emphasis off economic reports. “There are often knee-jerk reactions to these, but with the volatility we have seen of late and the emphasis on the credit crisis, these reports have less effect now than they have in times past,” he says.

During the current crisis all attention was placed on the pronouncements of the Fed and Treasury. With the government pouring hundreds of trillions of dollars into various institutions based on this crisis, a report that shows lagging conditions will not hold the same weight as it would ordinarily.

Shaughnessy says the importance of the various releases changes as the economy changes. “What used to be a bearish report may become a bullish report in different economic times. Interpreting what numbers may move the market and how they may move the market is more difficult today than in the recent past. There is no simple answer on how to interpret the various economic releases and how to trade them. In a word, ‘carefully’ would be my advice,” he says.

Either way, the market acts based on the report vs. expectations. It is important to keep your ear to the ground in order to determine what market participants have already worked into the price.

Experts say that risk tolerance plays a part in how options traders prepare for economic releases. “Some traders with a low risk tolerance will close out some or all of their positions or not initiate any positions before an important announcement. Others will take a position with hopes that a favorable move will occur after the announcement is released,” Zarembski says.

For commodities traders, crop summary, planting intensions reports and cotton and livestock reports by the U.S. Department of Agriculture (USDA), can have an impact. Hackett says the degree of that impact usually depends on whether or not the report meets or exceeds expectations. “Many times, expectation is already built in and if the number comes in at or below what the conventional wisdom was, there could be a serious countermove from what was going on prior to the report,” he says. Traders should be mindful of what the market is anticipating. “Try to figure out where expectations lie in these markets as best you can,” Hackett says. Two of the most-watched USDA reports are the late June acreage survey and the December reports on corn and soybeans.

According to Zarembski, some grain option traders try to sell options a day or two ahead of a major USDA report, expecting many traders to buy options before the USDA report is released hoping for a large move, which he says can “inflate the price of options before the report and many times option prices will fall for both puts and calls if the USDA report is not overly bullish or bearish.”

When it comes to the trading calendar, knowledge is power. Check the exchange Web sites and Futures Dateline for first notice and last trading days. Get up-to-date expectations prior to each economic report. Expectations will change up until the report is released, so don’t rely on dated sources. If you know what’s expected, you’ll be better prepared to trade.

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