With the final numbers now in for our comparison benchmarks, we can officially log superior performance for May in conditions under which, according to “conventional wisdom”, a market-neutral strategy supposedly can’t do well. By following the latest improvements to our trading rules, we stayed mostly in cash and, for the one position we did put on, made vega-neutral adjustments to compensate for huge moves in the S&P as volatility shot back up to historically high levels. These same rules have been keeping us out of the market so far in the June cycle…but more about that after a quick review of the May stats.
Our 5.79% Model Portfolio return for May stands in dramatic contrast to the S&P’s 8.76% loss and, perhaps more significant, the greater than 9.5% loss suffered by the CBOE S&P 500 Volatility Arbitrage Index. As the latest performance chart shows, our long-term (note the key phrase) performance significantly exceeds buy-and-hold as well as a generic volatility-arbitrage strategy.
Last week European debt and other worries overwhelmed the tendency for implied volatility to drift down into expiration, keeping us on the sidelines for another week…but I haven’t let that week go to waste. Anticipating the likelihood that IV might remain prohibitively high for some time, I’ve been developing new ideas for building a portfolio around one or more double-diagonals. Long-time members know we’ve traded double-diagonals before—often with great success, but sometimes finding that our standard adjustment approach was not sufficient to repair certain positions once they were beaten down. As I did with the calendar-spread strategy back in April, I attempted to identify why some double-diagonals had been difficult to manage, and tested out a few different risk-management approaches, mostly at the portfolio level.
If the relative calm that succeeded this morning’s big gap down continues, I’ll be posting a trade alert, for a June/July SPY double-diagonal, shortly. On the other hand, if the wheels begin to come off the wagon (yet again) in the last hour of trading, it might be a good idea to wait another day or two for signs that the market is becoming more stable.
I also have a couple of Supplemental Trade ideas on the radar, including TM, PG and MCD. Anyone who’s especially eager to get into some kind of calendar position this month might want to consider the MCD Jun/Jul 67.50 put calendar, which is currently trading for about $0.74. Note that the stock goes ex-dividend on Thursday, which typically puts downward pressure on the shares (and is why the June puts are selling for a premium). Note also that this is strictly a Bonus Trade idea, for members comfortable managing it on their own, and there won’t be any follow-up.