At Bigger Capital we like to trade the $SPY- $IWM spread. In addition to being a great spread to trade for profit, this spread measures to a certain degree the amount of risk being added or taken out of the market. The spread movement indicates the state of the money flow between small cap and large cap stocks.
The behavior of the spread was particularly interesting in September. This is what we have noticed, and this is how we have used our own interpretation to trade the market:
- The spread increased in value overall throughout the month indicating risk being taken out of the system (trend line).
- Despite the increase in the value of the spread, $SPY rallied last week. We took this opportunity to initiate a short position.
- Notice the sharp spike up in the spread on September 2nd, followed by a sharp drop in $SPY on September 3rd.
- On September 22nd, the spread had a strong move downward indicating that someone might be willing to take more risk out there (could be an aberration). On September 22nd, we traded from a long bias in the afternoon and made good money on that basis.
- Could the spike indicate a rally coming ahead? Maybe or maybe not, but I am looking to short the market aggressively if the spread spikes back up. If the spread continues declining and the spread hold its own we will be active from a long perspective (small size) with a very short term horizon (a few hours).
Does this sound like a good game plan?
Written by Michael Bigger. Follow me on Twitter and StockTwits.