Test of Condor’s VIX-based Trading Strategy
This is a test of a stock market trading strategy using the VIX offered up by Condor Options. The boys at Condor are all about (as you probably guessed) futures and options so they’ve applied their strategy to S&P 500 futures contracts. I’m all about leveraged mutual funds, so I’ll spin my test that way.
Condor’s strategy is exploiting the market’s reaction to extreme VIX readings (read: very panicked or very complacent markets). The strategy I’m testing is as follows: go long the S&P 500 using double-beta funds at today’s close if the VIX will close above its upper Bollinger Band (12 days, 1.1 deviations) and close that position if the VIX will close below its 12-day moving average. Go short the S&P 500 at today’s close if the VIX will close below its lower Band (12 days, 1.8 deviations) and close that position if it will close above its 12-day MA (see geek note at end of post).
The graph above shows the S&P 500 (blue) and the Condor strategy long and short (red) and long-only (green) from early 1990 to date. I’ve assumed a return on cash when not invested in the market equal to the nearest 13-week Treasury bill.
The Condor strategy produced consistent returns over the entire test period and did a reasonably good job at sidestepping the early 2000 bear market and (at least up until last week) the current bear. Stats below.
Condor’s strategy as I’ve applied it has produced outsized returns on both an absolute and risk-adjusted basis, but is considerably more volatile than the stock market and has suffered some pretty nasty (albeit not very lengthy) drawdowns.
One additional observation. Note how the strategy is asymmetrical in how it treats longs vs shorts; it’s much easier for the strategy to enter a long trade than a short one, but despite this, longs have been more consistently profitable than shorts. I’m ok with this. With contrarian systems like this one, the market has historically been much more likely to spike up after market lows than spike down after market highs. This is partially because the market has been mostly bullish and partially an intrinsic characteristic of the market regardless of the broader trend.
Our own long/short YK Strategy suffers from this asymmetry as well – the strategy is much more likely to take an aggressive long position in the face of a down market than a large short position in a strong up market. The takeaway from that is to be very careful in betting against a rising market just because it seems too high.
Geek Note: leveraged mutual funds such as those from Rydex, ProFunds, or Direxion haven’t been around long enough to perform this test using actual fund data, so we’ve simulated the fund returns, conservatively assuming an annual expense ratio of 2.0%. Because of the very high r-square exhibited by these funds to their underlying indices, these simulated returns are very accurate.
Filed under: Trading Strategies, VIX & Volatility | 12 Comments