Seasonal Tendencies: The Option Seller’s Ace in the Hole

Seasonal Tendencies: The Option Seller’s Ace in the Hole
Apr

10

2018

Seasonal Tendencies: The Option Seller’s Ace in the Hole

Seasonal tendencies of commodities are one of your biggest advantages over stock traders. Here is how to use it to target bigger gains with higher probabilities.

One of the biggest advantages held by commodities investors over stock investors is the seasonal tendency. Nearly non-existent in stocks, they are prevalent in commodities and available to anyone who takes the time to look them up.

But what is a seasonal tendency? A “seasonal” as it is known, is the tendency of the price of a commodity to move in a certain direction during a certain time of year .

Most often, this occurs as a result of a core underlying fundamental such as crop planting or harvest in grains or a demand surge such as gasoline in summer or heating fuel in winter.

The Wrong Way to Use Seasonals

There was an author that came out with a book several years ago that made himself semi-famous overnight by publishing a series of ” can’t lose” commodity trades based on seasonal tendencies.

This gentleman was big for a few years. He got himself some TV appearances. Started publishing a newsletter. Had a few high profile calls on the market. And then, everybody found out that you could lose trading commodities. And the whole phenomenon faded pretty quickly. People stopped paying attention to seasonals.

Traffic jam on the way to Clearwater

Seasonal Price tendencies often develop as a result of certain commodity “events” that happen at the same time each year, such as summer “driving season” when many in the US travel.


All of this, of course, is a shame for the investing public, but good for you. For this was a clear case of throwing the baby out with the bathwater.

This gentleman’s mistake was not in using seasonal tendencies. His mistake was in misinterpreting and misusing them. In particular, his reliance on exact dates taken from a seasonal average chart in an attempt to perfectly time the market. As you surely know, trying to determine what the market will do tomorrow or next week is difficult, if not impossible.

But determining certain seasons during a year when annual fundamentals tend to pull or push prices on one direction? That’s another matter.

The Good News

The good news is that seasonal tendencies are still alive and well in the commodities markets and available to anyone that wishes to interpret their data. No, they are not perfect. However, if used correctly, seasonal tendencies can be a powerful tool for commodities option sellers. So powerful, in fact, that you’ll find two full chapters devoted exclusively to seasonal trading in The Complete Guide to Option Selling.

Seasonal Drawbacks

Seasonal tendencies do have their drawbacks. First and foremost, past performance is not indicative of future results. Just because it happened last year, or even the last 10 years, doesn’t mean it’s going to happen this year.


… this is exactly why writing options is quite possibly the perfect strategy to be combined with seasonal tendencies.

Season tendencies are just that, tendencies. This means prices have, in the past, tended to move in a certain direction during a certain time of year. However, there are no guarantees as to what point in that time period prices will move, how far they will move, or if they will even move at all.

Futures traders have the burden of having to pick market direction and have nearly perfect timing. This makes using a seasonal tendency to trade futures contracts more difficult.

The Option Sellers Advantage

Option sellers, however, are not burdened with the responsibility of perfect timing. They can withstand short term moves against their position and they are more than willing to wait out a position. After all, as an option seller, time is on your side. You get paid to wait.

More importantly, option sellers are most concerned with longer term price direction and where the market is most likely NOT going to go. Thus, combining seasonal tendencies with selling options can be a powerful combination.

How to Use a Seasonal Chart

Seasonal tendencies are driven by underlying fundamentals that tend to happen at the same time each year. For instance, corn prices tend to remain strong through springtime in the US, when anxiety about planting is at it’s highest. Once the crop is safely planted in the ground, much of that anxiety is lifted. Thus, in the past, corn prices have tended to weaken once the planting season nears completion in April and May.

September Corn Seasonal Chart

GRAPH: September Corn Seasonal Chart


Seasonal charts can be a valuable tool for investors. This example shows that, on average, corn prices tend to decline after Spring planting season. But it may not happen that way every year. Trying to time the market to a specific day or week is not the way to use seasonals.


The novice option seller may assume from the chart that if he sells corn on March 1, and buys corn on August 5, he will be assured a profit. It’s just not that simple.

Corn Field

Planting and harvest cycles can play a big role in commodities prices.


Corn tends to decline in price after planting. But what if planting is behind, goes in late, or sees an increase in acreage? Prices could react sooner and he would miss the move. Or, they could rally first and react later, catching him on the wrong side.

This is why a seasonal tendency cannot be viewed in a vacuum. You must view it with respect to where the fundamentals are right now. Are they in line with seasonal norms? Are they ahead? Are they behind? Is there an unusual fundamental occurrence that could override the seasonal?

All of these are factors that you must consider in additional to the outright seasonal averages.

That being said, this is exactly why writing options is quite possibly the perfect strategy to be combined with seasonal tendencies. The option seller can still see his option expire worthless if he is early, late, or even if the move does not occur at all. Only in an extreme counter-seasonal move does the option seller lose. This is not the case for the outright futures trader. And it is certainly not the case for a stock trader.

Conclusion

Used correctly, seasonal tendencies and option selling can pack a powerful punch for investors looking for outsized ROI on their investments.

Seasonal tendencies are most valuable to you when not viewed in a vacuum. Knowing the fundamentals that drive these tendencies will give your seasonal analysis more perspective. OptionSellers.com uses seasonal analysis extensively in identifying high probability option sales for our managed option selling portfolios .

To make the most of seasonals, look to sell options deep out of the money in the opposite direction of the seasonal.

Technical traders, neophytes and “news bite” traders will often trade a commodity ignorant of its seasonal tendency. Thus, knowing what these tendencies are can potentially give you an advantage over them – an “ace in the hole” you can play when the time is right.

Its also an Ace you’ll never be dealt if you limit yourself to stocks.

Michael Gross is co-author of McGraw Hill’s The Complete Guide toOption Selling 3 rd Edition . He serves as Director of Research at OptionSellers.com with published works on options trading featured byForbes, Businessweek and Yahoo Finance.

For more information on managed portfolios with OptionSellers.com, visit www.OptionSellers.com/Discovery for a FREE investor information pack.

  1. Hi Michael:

    How do you guys handle when you have a strong seasonal like corn, for example, that tends to decline in price after the June/July time frame, but the fundamental is in conflict with the seasonal. For example, let’s say that lower acreage planted and lower ending stocks are possible and an increased China demand is expected that could cause a rally in corn. Is this something you stay out of, do you favor the fundamentals over the seasonal, or do you favor the seasonal over the fundamental, or do you watch price for clues?

    • Michael Gross Says:
      April 24, 2018 at 4:26 pm

      Alex,

      Great question. Unfortunately, there is no simple answer. You have to take both into account. Initially we look at the seasonal. If fundamentals are congruent with, or neutral to the seasonal, you trade the seasonal. If they appear to conflict with the seasonal, you may want to consider a strangle. Or, not trade it at all. It all comes down to how confident you are in your fundamental analysis.

      Thanks and hope that helps.
      Regards,
      Michael

  2. I need to know which brokers you would recommend me using if I don’t have the minimum $500,000 that you require to have my account managed by you. Can you please let me know ? I have been trying to get this question answered by you for a long time now. I would love to have you manage my account. But don’t have that much money in my account

    • Michael Gross Says:
      April 11, 2018 at 2:53 pm

      Mr. Pitcher,

      We don’t have competitors that we “recommend” as we are not responsible for their actions or your results with them.

      However, I have heard that Interactive Brokers has a good platform for futures options.

      Regards,
      M. Gross

      • Larry Brown Says:
        April 12, 2018 at 5:07 pm

        I am in the same boat with you, Mr Pitcher. I very much enjoy the analysis that Michael and James offer and have done well, in general, by following it on my own. I use the FuturesPlus platform offered by TradeStation.

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