Some equity traders are missing their chance for alpha at initial market openings.
That’s the latest finding from Credit Suisse analysts. While noting that traders face a number of difficult choices when deciding when to trade, those who wait, and avoid trading in the first 30 minutes, seem to believe that the opening minutes are too volatile. In their latest report, “Timing the Trade,” analysts Phil Mackintosh and Ana Avramovic said waiting may cost traders alpha.
“We show that trading tends to revert to “normal” by 9:40 a.m., so traders may be missing valuable liquidity and alpha potential by waiting so long,” the analysts wrote.
While there is a lot of volume at the open, the broker said it is also notoriously volatile and spreads are their widest. Knowing this, some traders choose to sit out the open and wait for the initial open trading barrage to end. Many traders also have a similar feeling around the close: volumes are elevated – but so is volatility, they said.
“By 9:40 am, it seems that the typical relationship between volatility and volume is already in effect,” they argue, and thus trading should commence. By waiting to trade, they miss meaningful volume and will have to increase their participation rate in order to finish filling their needs in the time remaining, the authors said.
Credit Suisse said the best day to trade is Thursday because it is the busiest. This makes some sense, the authors noted, as trading momentum builds during the week, but drops on Friday. Traders prepare for the weekend and international markets have already closed. Also, corporate earnings releases also follow this pattern. Credit Suisse also said that Friday has become more active over the years but the last day of the week can be affected by single high-volume days, such as a triple witching day or index rebalance.
Interestingly, Thursday has historically also had the best returns they noted. Mondays have not been very favorable. The pattern seems to be consistent in bull and bear markets.
Why?
Major economic or political policy initiatives that are expected to have a large, and often undesirable, impact are often announced over the weekend, when markets are closed, in order to manage the response as much as possible. The analysts cited the financial crisis. That’s when JPMorgan purchased Bear Stearns and Lehman declares bankruptcy. Monday weakness is likely a reaction to such events.
“This suggests that buying on Monday and selling on Thursday or Friday might be the most profitable timing strategy,” the analysts wrote.
