This article presents a brief review and listing of academic papers on triple witching.
The expiry of stock index futures, stock index options and stock options happens in a programmed calendar throughout the year. On four days a year these three different types of derivative all expire on the same day – the third Friday of the months of March, June, September and December. This day is sometimes referred to as triple witching day, and is associated with increased trading volumes and volatility.
Following the 1987 stock market crash there was great interest in program trading (a term not so commonly used today) and its impact on volatility. This led to a minor flurry of academic interest in associated topics such as triple witching.
The earliest mention of triple witching we can find in an academic paper is Feinstein and Goetzmann (1988), which looked at the increased volatility caused by the coincident expirations. A couple of years later Stoll and Whaley (1990) found greatly increased trading volume in the last half-hour on expiration days. However, they did not find any significant difference between stocks subject to program trading and other stocks.
In June 1987 the settlement of S&P 500 and NYSE index futures was changed (to settle at the open and not the close) in an attempt to decrease the impact of expiration. The effect of this was the topic of the most cited paper on triple witching, Stoll and Whaley (1991). Not surprisingly, perhaps, they found that volume and volatility of the S&P 500 and NYSE contracts was lower at the close and higher at the open for the period after June 1987 compared to the period before. The impact on price at the open was slightly smaller post-June 1987 than it had been at the close pre-June 1987.
Academic interest in triple witching then waned, albeit articles continued to appear on the more general topic of option expiration.
A rare, recent article (Stratmann and Welborn, 2012) found a positive relationship between ETF settlement failures and ETF short sale volume, the cost to borrow ETFs, and triple witching days.
Derivatives contract expiry
Exchange-traded options and futures are financial contracts that expire on a certain day. On this expiry day the underlying assets (in the case we’re interested in here, stocks and stock indices) can experience an increased level of volatility. This can be for a couple of reasons:
- Traders that have positions in the derivative instruments (e.g. options) may try to influence the closing price of the underlying stocks to which the settlement prices of the derivatives are related. For example, if a trader is long call (or short put) options they might try to ramp the underlying stock in the closing period of trading. Conversely, traders long of puts (or short calls) might try to sell the stock down in the closing period.
- If traders with arbitrage positions (i.e. matched holdings in derivatives and underlying stocks) unwind their positions at contract expiry this can create buying or selling pressure on the stocks.
The derivatives contracts that are relevant here are: stock index futures, stock index options and stock options. The expiries of these contracts happen in a programmed calendar throughout the year. However, on four days a year these three different types of derivative all expire on the same day – the third Friday of the months of March, June, September and December. The final hour of these days has come to be known in the US as triple witching hour. And with the introduction of single stock futures, triple witching has become quadruple witching.
Due to the correlation of the US and UK markets, the UK would be affected by US triple witching anyway; however, the UK also has it own version of tripe witching as the expiries of stock options and futures on LIFFE also coincide on the same four days as those in the US.
The chart below shows the recent average trading range (defined as the percentage range between the high and low prices on the day) for the FTSE 100 Index on the triple witching day (day 2) and that for the day immediately prior to it and following it (days 1 and 3 respect.). The dotted line shows the average trading range for all days since year 2000.
As can be seen the trading range for the three days is higher than that for normal days, with the greatest volatility seen on the triple witching day itself.
The chart below shows the average change in the FTSE 100 Index on the three days around triple witching (which occurs on day 2). The dotted line shows the average change for all days since year 2000.
It can be seen that the average change on triple witching day is significantly above normal.
- Exchange-Traded Funds, Fails-to-Deliver, and Market Volatility, Thomas Stratmann and John W. Welborn (2012)
- Stock Returns on Option Expiration Dates, Chin-Han Chiang (2010)
- Open volume and time to open on option-expiration days , W. Paul Spurlin and Bonnie F. Van Ness and Robert A. Van Ness (2008)
- The Empirical Distribution of Intradaily Stock Return Volatility, Rong Chen and David Ellis and Robert Wood (1994)
- Triple-witching hour, the change in expiration timing, and stock market reaction, Chao Chen and James Williams (1994)
- Whatever Happened to the Triple Witching Hour?, G. D. Hancock (1993)
- Expiration-Day Effects: What Has Changed?, Hans R. Stoll and Robert E. Whaley (1991)
- An alternative methodology for measuring expiration day price effects at Friday’s close: The expected price reversal—A note, Anthony F. Herbst and Edwin D. Maberly (1991)
- Program Trading and Individual Stock Returns: Ingredients of the Triple-Witching Brew, Hans R Stoll and Robert E Whaley (1990)
- The Effect of the “Triple Witching Hour” on Stock Market Volatility, Steven P. Feinstein and William N. Goetzmann (1988)
It’s triple witching tomorrow (21 Sep 2012)!
To add some extra spice to the day there will also be a heavy re-weighting of the S&P indices.
And it’s the Autumn Equinox on 22 September.
According to Paul Macrea Montgomery of Montgomery Capital-
The legendary trader W.D. Gann reportedly claimed that capital and commodity markets tend to top on or around September 22nd more oft than on any other day of the year.
Back to the witches…
The lesson of previous triple witching days is to expect increased volatility and an abnormally strong return. The chart below is taken from the 2013 edition of the Almanac and shows the FTSE 100 Index returns for the three days around triple witching.
The two tables below show the 10 ten strongest/weakest shares in the FTSE 100 Index on the eleven September triple witching days since 2000. For example, Capita has increased on the September TW days 10 of the past 11 years with an average return on the day of 0.93.
10 strongest FTSE 100 September TW shares
|Capita Group (The)
|International Consolidated Airlines Group SA
|British Land Co
|Tate & Lyle
10 weakest FTSE 100 September TW shares
|Sage Group (The)
|Morrison (Wm) Supermarkets
|Reckitt Benckiser Group
|Imperial Tobacco Group