Options Trade of the Day: Is the SPDR S&P 500 Set to 'Sell on the News'?
Options activity on the SPDR S&P 500 ( SPY ) exchange-traded fund ( ETF ) has been brisk today. Overall, more than 343,000 calls and 542,000 puts have crossed the tape on the equity, with traders focusing heavily on the November 117 put and the November 120 call, which have seen 43,500 contracts and 24,000 contracts change hands, respectively. Taking a closer look at the SPY's put volume, however, reveals what appears to be a bearish spread strategy on the ETF.
Given that there is quite a bit of information slated to hit Wall Street within the next couple of days, including the Federal Open Market Committee's potential plan for a second round of quantitative easing and the outcome of today's midterm elections, this type of speculation is not too unusual. Senior Vice President of Research Todd Salamone even stated in the most recent edition of Schaeffer's Monday Morning Outlook that he had been "... anticipating that the market could be setting itself up for a 'buy the rumor, sell the news' situation at month's end." However, while Todd has since come to believe that recent events lessen such a scenario, and, in fact, increase the potential for a "buy on the news" reaction from Wall Street, the trader in today's options strategy of the day has come to no such conclusion.
Specifically, a block of 2,403 November 117 puts traded for the ask price of $0.45, or $45 per contract, at about 9:44 a.m. Eastern time on the Chicago Board Options Exchange ( CBOE ), suggesting that these contracts were bought to open. At the same time, a block of 2,403 November 109 puts traded for the bid price of $0.03, or $3 per contract, suggesting that the contracts were sold to open. Both blocks were also marked "spread." Given this data, it appears that the trader opened a vertical put spread, or debit spread , on the S&P 500 SPDR.
The Anatomy of a S&P 500 SPDR Vertical Put Spread
Breaking down this debit spread position, the trader purchased 2,403 November 117 puts for the ask price of $0.45, resulting in a debit of $108,135 -- (0.45 * 100) * 2,403 = $108,135. In the absence of the premium received by selling the November 109 put, the trader would need SPY to drop roughly 1.7% from Monday's close at $118.53, to $116.55 per share, in order for the position to reach breakeven at expiration. Furthermore, the maximum loss on this leg of the position is limited to the initial investment of $108,135.
As you can see, the second leg of the debit spread helps to offset the cost of the overall position. In this case, the trader sold 2,403 November 109 puts for the bid price of $0.03, netting a total credit of $7,209 -- (0.03 * 100) * 2,403 = $7,209. Combining this leg of the trade with the purchased November 117 put lowers the total cost of the entire position to $100,926 -- $108,135 - $7,209 = $100,926.
After the vertical put spread has been established, rising implied volatility is pretty much neutral to the overall position, as it lifts the value of both the sold option and the purchased option. At the time of the trade, implieds for the November 117 put arrived at 31.29%, while the implied volatility for the November 109 put came in at 47.93%. For a point of reference, SPY's one-month historical volatility was 10.29% as of the close of trading on Monday.