Spread Trading - Strategy & Calculation

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iGuru

Active Member
#1
As I already discussed in my previous article “Spread Trading - A Simple Trading Strategy for Maximizing Your Profits” about some basics of Spread trading.

Link: http://www.traderji.com/commodities...trading-strategy-maximizing-your-profits.html

Here, I will focus on the different strategies for spread trading and to calculate how to find the spread opportunity.


But before going forward, I would like you to remember few thing w.r.t. Spread:

Do spread on Gold, Silver, Copper, Zinc and in cross commodities like Lead & Zinc. (Currently ignore any other commodities or combination of commodities....... I’m working on it and will keep update on time to time.)

Never do spread in any commodities for last 7 trading days before contract expiry.

For any abnormal behaviour in spread, always check for some market news (which must have affected it) before taking the spread position.

For spread calculation use maximum 20-25 days of historical data.

Every day your spread differences keep on changing, so we need to update it on daily basis to understand the spread gap and to apply the strategies.

In spread trading, you will gain in one contract and loss in another, very rarely you find that you gain in both the contract.

Don't do spread in Gold & Silver for Dec expiry contract (As I never find a good opportunity for spread)


Now we will come to the strategy:

There are two types of strategies for Spread: Bull Spread & Bear Spread

Bull Spread
This strategy is applied when the spread gap between the two contracts (Gold Far month contract – Gold Near month contract or Lead Oct contract – Zinc Oct contract) is more or widen.

Bear Spread
This strategy is applied when the spread gap between the two contracts (Gold Far month contract – Gold Near month contract or Lead Oct contract – Zinc Oct contract) is less or narrow (gap between the two contract become “Zero” or “negative” figs.)


Calculation:

Here, I’m taking the example of spread between the Lead & Zinc (my favourite one):

First take the historical data for last one month from MCX website (mcxindia.com – Market Data – Bhav Copy – Bhav Copy Commoditywise)

Then take the spread gap between the closing price of each day (Spread Gap = Lead Closing Price – Zinc Closing Price) for last one month

Take the "Average" of those spread gap of the closing prices and also the "standard Deviation" of those spread gap of the closing prices for last 20-25 days.

Now we will have two figs........ that is “Average” & “Standard Deviation”.


Now comes the final part that is the decision making and implementation of Spread strategy:

Bull Spread Range = Average + Standard Deviation

If the spread Gap > Bull Spread Range, then we will go for Bull spread strategy. It means we will Sell the far month contract or Lead contract and Buy the near month contract or Zinc contract.

Bear Spread Range = Average - Standard Deviation

If the spread Gap < Bear Spread Range, then we will go for Bear spread strategy. It means we will Buy the far month contract or Lead contract and Sell the near month contract or Zinc contract.


Important point:

I have attached an Excel file: Spread Analysis – Lead & Zinc for your reference to understand the calculations.

For calculating the spread gap between the two contracts, I always subtract from Far month to near month contract for spread calculation. If you will change this calculation scenario then your strategy will also change.

For lead & zinc spread, I found that there Bull & Bear spread gap is around Rs. 2.5 to 0 even to -0.5. Any time if you find a spread gap of Rs. 4 to 5 or Rs. -2 to -3 will be a very good opportunity for spread in Lead & Zinc.

For Gold, Bull & Bear spread gap is around Rs. 140 to 80/70.

Same way you can find the spread gap for other commodities also. Continues study and watch will help you to understand the spread gaps for different commodities.

If anyone can have it live for intraday then it will be a very good opportunity to do & apply spread.


Regards,

iGuru
 
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#3
Sir,
Can you provide same analysis for Gold/Silver...
Also ,plz explain how u close d position after a reversal or at expiry ..
can this method be applied to stocks also...
 
#4
Sir, nice strategy .thanks for answering my query quickly.
After studying the sheet i understood that when the spread gap widens between lead and zinc we short (bull spread) and viceversa (bear spread) if spread gap goes negative. Please tell me what is the % margin requirement for lead, zinc ,gold,silver etc. On how much lots and investment do we calculate the profits you mentioned. what is the risk ,s/l etc.
Also is the 80+ % correlation between zinc and lead is maintained consistently so that we can use this strategy regularly ? Where do we find daily or weekly correlation of mcx commodities . Please clear the doubts so we can study further. Also are there such closely correlated commodities like grains , spices etc.
Thank you!!!
 
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iGuru

Active Member
#5
dear,
nice explanation.....really you are guru.....
normally...i trade with crude...can you pls. give some idea about this strategy with crude....
tnx,

Hi,

Personally I will not suggest you to go for this startegy with Crude Oil....... as it is very volatile and due to which some times spread doesn't work properly.

If you still want to take the risk like me then you can go for it (Not adviceable).

Spread gap for Crude Oil is 55-20 (Bull & Bear Spread).

I have explained in the thread & attached an excel file with it....... which will help you a lot to understand it.

If you still have any problem then ask me, I will clearify you doubts.



Regards,

iGuru
 

iGuru

Active Member
#6
Sir, nice strategy .thanks for answering my query quickly.
After studying the sheet i understood that when the spread gap widens between lead and zinc we short (bull spread) and viceversa (bear spread) if spread gap goes negative. Please tell me what is the % margin requirement for lead, zinc ,gold,silver etc. On how much lots and investment do we calculate the profits you mentioned. what is the risk ,s/l etc.
Also is the 80+ % correlation between zinc and lead is maintained consistently so that we can use this strategy regularly ? Where do we find daily or weekly correlation of mcx commodities . Please clear the doubts so we can study further. Also are there such closely correlated commodities like grains , spices etc.
Thank you!!!

Hi,

Thanxs for your comment.

Spread margin required = 25% to 50% of margin amount required for naked trading per lot. (it's depends on the broker)

eg: Gold margin is around Rs. 80,000 so for spread in Gold you will be required a spread margin of = 25% x Rs. 80,000 = Rs. 20,000 per lot. (same way you can calculate for other commodities, generally broker ask for Rs. 25K - 30K for Gold spread).

For spread between Lead & Zinc, I always assume it at 50% for me. in this I just have to inform my broker that it is a spread position rather than a naked position.


Yes, the correlation between Lead & Zince is consistant and you can use this startegy regularly on it.
I find the correlation between any two commodities by putting the formula in excel.

I don't trach Agri. commodities a sof now, so can't help you in this. But you can find a good oppertunity in Soyabean contracts.

On how much lots and investment do we calculate the profits you mentioned. what is the risk ,s/l etc.

If you are asking about the excel sheet then I have mentioned it there the calculation (you can check it there). The risk here is daily M2M & if you take the wrong startegy. Sometimes spread goes against your strategy and remain there till expiry....... which may make a lossing position. As this a type of hedge position you don't need to think about your stop loss.......... it will be totally depend on you that how much risk you can take.



Regards,

iGuru
 
#7
Sir,
thank you very much for answering my queries and clearing my doubts so quickly.
SIR , TODAY THE DIFFERENCE (SPREAD GAP) BETWEEN GOLD OCT FUT CONTRACT AND DEC FUT CONTRACT IS ALMOST AROUND 145 RS. IS THIS SPREAD TRADING OPPORTUNITY. I THINK BULL SPREAD OPPORTUNITY. ALSO CAN WE USE THIS STRATEGY FOR NICKEL AS THERE IS WIDE SPREAD GAP BETWEEN OCT AND DEC MONTH CONTRACT .HOW CAN WE GET DAILY CLOSING PRICE DATA IN EXCEL FORMAT AS YOU HAVE POSTED (NOT MCX FORMAT).
THANK YOU!!!
 
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iGuru

Active Member
#8
Sir,
Can you provide same analysis for Gold/Silver...
Also ,plz explain how u close d position after a reversal or at expiry ..
can this method be applied to stocks also...

Hi Dewashish,

Give me some time for doing the analysis for Gold and Silver. I will post it as soon as I will be done.

I didn't understand clearly by what you mean by this "plz explain how u close d position after a reversal or at expiry" , can you please alaborate your doubt.

Yes, it can be done in Equity futures (companies with the same sector).



Regards,

iGuru
 

Tradejack

Active Member
#9



Spread margin required = 25% to 50% of margin amount required for naked trading per lot. (it's depends on the broker)

eg: Gold margin is around Rs. 80,000 so for spread in Gold you will be required a spread margin of = 25% x Rs. 80,000 = Rs. 20,000 per lot. (same way you can calculate for other commodities, generally broker ask for Rs. 25K - 30K for Gold spread).

For spread between Lead & Zinc, I always assume it at 50% for me. in this I just have to inform my broker that it is a spread position rather than a naked position.



>>>>Hi iGURU,u told that margin of gold is 80k for naked position. And 25% of 80k that is 20k for spread .how it is possible? I think we are taking more than one position of different months for spread.the margin should be double .
 
#10
Sir,I wanted to ask u .
how did u decide to close the open positions ..
Do you wait till expiry of contract ???

Because You told to go for bullspread when
Bullspread Range > Spread Gap
..but i didnt get when you decided to close the position.
did you close when
Bullspread Range < Spread Gap ??
 
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