Interesting new pattern found in prime numbers

Image by cinderellasg via Flickr

A team of Spanish mathematicians, Bartolo Luque and Lucas Lacasa, found a new pattern in prime numbers that may have great repercussions in many fields such as cryptography and finance and fraud detection. The researchers found that the first digit distribution of prime numbers conforms to the Generalized Benford Law.

On a cryptography level, this may allow us to find big prime numbers faster or even help factoring prime number products; the basis of today’s cryptography.

Looking at the financial implications, the fraud detection properties can also apply to stock market analysis. As the team pointed out, naturally generated data will follow Benford’s law but randomly generated data or guessed data will not.

Update: Shorting both FAS and FAZ

It’s been a month since I posted my article about shorting both FAS and FAZ. I received many interesting comments and e-mails. The strategy has been working nicely but not as good as it has in the past. The short availability has been a problem in the morning: most of the time, my broker will not let me short either one of them. Waiting until noon usually shows enough shares available to short. Overall, the last 30 days produced a 3.6% gain including commissions.

Option strategies: Calendar spread

I’m back from my blog world vacation. I wasn’t drinking margaritas on the beach but mostly filing taxes for a few people and working overtime on an iPhone application for a demo in Boston last week. The markets have been quiet lately and this means it’s time for a few calendar spread option plays.

The calendar spread can be done using calls or puts, depending on the implied volatility bias and which side you anticipate the market to go. Calendar spreads are best suited when used in a stable market or during a period of consolidation. Using them on ETFs is a good way to avoid exposure to a single company. The call calendar spread is established by buying a long term call with at least 3 months to expiration and selling a short term call with less than 45 days to expiration, at the same strike price:

• Long 1 call, at the money or slightly out of the money with more than 3 months to expiration
• Short 1 call, at the same strike with less than 45 days to expiration

This strategy works by capturing the time decay on the short term option while protecting the position with a long term option. Also, when the short term option expires, it’s possible to sell an other short them call against the long term call to keep the position running.

Risk

The maximum risk for this strategy is the amount paid for the initial position. The maximum profit varies with the volatility. The break even prices are also determined by the volatility.

Entry rules

• Implied volatility of the front month should be 15% higher than the IV of the bought call.
• There is a price consolidation in the underlying stock.
• Aim for a $2 debit per contract.

Exit rules

• Close the position during the expiration week of the sold option or let the short expire worthless then sell long call on the next business day.
• If you want to keep the position open, roll the short option forward during the expiration week if the long term purchased option still has over 2 months left to expiration.

Strategy graph

The performance graph for this position when bought:

Performance graph at expiration:

Volatility graph when bought:

Market update: Financials over-optimism?

For the past few weeks, the financial market has been getting most of the attention between the Obama speeches. The U.S. President is working hard to “fix” the system and make the world a better place:

President Obama vowed Sunday to pursue the elimination of nuclear weapons from the planet, telling a cheering throng in Prague that the United States is ready to lead an international effort to reduce atomic arsenals and the threat they pose.

This quote from an article at L.A. Times by Christi Parsons and Tom Hamburger is very pleasing to the ear and may help bring stability and boost the market on Monday. But this series of good, great and better news interleaved with a rally in the financial sector may soon take us back to reality. Analysts are digesting the new rules like the “mark-to-market” accounting method that is supposed to save the Financials but may as well be an other evil plan ready to explode. Looking at the XLF ETF, it looks like the Financials are ripe for a pull-back in the next weeks:

The next week is going to be an interesting one: I’ll be watching FAZ closely.

Direxion to offer monthly 3x leveraged ETFs

This is a follow up on my previous post about a trading strategy with FAS and FAZ, the Direxion Financial 300% ETFs. These two funds are tracking their index on a daily basis. This means a 10% drop today followed by a 10% rally tomorrow will NOT bring back the ETF to where it was. For example, if the fund started at $100, the 10% drop would bring it at $90. The next day, the 10% rally would bring it to $99, not $100 because 10% of $90 is only $9. In a volatile environment, this “eats” the fund’s value in a short time. But the value doesn’t really disappear… Direxion rebalances the funds everyday to make sure its value reflects the market, at 300% during the day.

To help longer term investors, Direxion will now offer similar funds with 2x and 3x leverage but tracking the index on a monthly basis. During the reference month, the value may drift away from the index value but should match the 200% or 300% return at the end of the month. In other words, this doesn’t replace the daily funds, it complements them. When more details are available about these new funds, I’ll see if I can find a strategy to trade the dailies with the monthlies.

Tapping into Twitter to feel the market

Image via CrunchBase

According to Chris Bennett at 97thfloor, Twitter may be the next big thing after Google. With reasons: Twitter takes the concept of short text status updates as seen on MSN Messenger, Facebook and others and expands the idea to make a global party line of endless chatter. How is that useful you ask? Twitter uses symbols to help categorize the content. For example, the hash symbol (#) is added in front of keywords to tag your subjects. You can also direct messages to specific users with the @ sign followed by their username. All this information can be accessed and searched on the Twitter search engine and many 3rd party search engines.

Then comes StockTwits, a Twitter aggregator that uses the $ sign in front of stock ticker symbols to filter tweets on a specific company. Using this site, you can read real-time tweets about what’s happening and what other traders have to say about what you are trading. At the moment, the top tickers at StockTwits are FAZ and FAS, the Direxion Financial 3X ETFs. These channels are very active and can help you find trade ideas.

Hello World!

Without making this post boring, I’ll skip the usual chat of the « Hello World » article and condense what I’ll be posting here. I’m a Computer Engineer with a day job and a not so secret interest in the stock market and, recently, the forex market. I mostly trade options but sometimes, I’ll work with the underlying. For the next few weeks I’ll post a series of articles about my favourite option trading strategies.