QuantConnect - Using Options for Risk Control with Python
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This document summarizes research into using trailing stops, option hedges, and covered calls for risk control. It describes experiments comparing the performance of a baseline long/flat MACD strategy against that same strategy enhanced with: 1) A trailing stop, 2) Put option hedging, and 3) Covered call selling. Key statistics like Sharpe ratio, drawdown, and alpha are presented for each strategy when backtested against IBM and SPY, showing that in most cases, the risk control techniques improved the strategy's risk-adjusted returns.
QuantConnect - Using Options for Risk Control with Python
- 1. Risk Control with Trailing Stops and Options Systematic Evaluation of Popular Risk Control Techniques www.quantconnect.com Jared Broad Founder & CEO
- 2. November-2017 QuantConnect – Risk Control with Trailing Stops and Options Page 2 Outline ▪ Introduction to QuantConnect ▪ Algorithm Development Process ▪ Creating Our Investigation Thesis ▪ Developing a Control ▪ Testing and Researching ▪ Experiment 1: Adding Trailing Stop ▪ Experiment 2: Adding Option Hedge ▪ Experiment 3: Covered Calls ▪ Summary
- 3. What is QuantConnect? We empower investors with powerful investment tools and connect the brightest minds from around the world with capital they need. November-2017 QuantConnect – Risk Control with Trailing Stops and Options Page 3
- 4. What is QuantConnect? QuantConnect is a community of 44,000 Engineers, Data Scientists, Programmers From 6,100 Cities and 173 Countries November-2017 QuantConnect – Risk Control with Trailing Stops and Options Page 4
- 5. Building Thousands of Algorithms Every Day November-2017 QuantConnect – Risk Control with Trailing Stops and Options Page 5
- 6. We’ve built a web algorithm lab where thousands of people test their ideas on financial data we provide; for free. LEAN ALGO TECHNOLOGY FINANCIAL DATA POWER COMPUTING How do we do it? November-2017 QuantConnect – Risk Control with Trailing Stops and Options Page 6 EQUITIES OPTIONS FUTURES FOREX CRYPTO
- 7. Development Process Live Trade Deploy the strategy live in a real money account. Research Ideas Backtest Algorithms Paper Trade Live Trading Research Quickly test ideas in a command line environment. Backtest Codify and run full simulation in the Algorithm Lab. Paper Trade Run idea on live market data. November-2017 QuantConnect – Risk Control with Trailing Stops and Options Page 7
- 8. Creating Our Investment Hypothesis First we define our null hypothesis, something we setout to disprove: The market is completely efficient and attempts at risk control are futile. November-2017 QuantConnect – Risk Control with Trailing Stops and Options Page 8 We are testing this theory by evaluating popular risk control methods; (e.g. Trailing Stops and Option Hedging), and comparing the performance.
- 9. Setting the Benchmark, Control November-2017 QuantConnect – Risk Control with Trailing Stops and Options Page 9 • Define a baseline performance for judging algorithm studies. • Baseline should ideally be as close as possible to study. This reduces other variables and makes it easier to identify potential causes. Control: Long Only MACD Long-Flat MACD; nothing else. Exp 1: Long Only MACD + Trailing Stop. Exp 2: Long Only MACD + Put Option Hedge.
- 10. Exploratory Research November-2017 QuantConnect – Risk Control with Trailing Stops and Options Page 10 Quantbook Research
- 11. November-2017 QuantConnect – Risk Control with Trailing Stops and Options Page 11 Control Implementation SPY Backtest IBM Backtest
- 12. Trailing Stop Hypothesis November-2017 QuantConnect – Risk Control with Trailing Stops and Options Page 12 Place Stop Move Up
- 13. November-2017 QuantConnect – Risk Control with Trailing Stops and Options Page 13 Experiment 1: Adding Trailing Stop SPY Backtest IBM Backtest
- 14. Option Hedge Hypothesis November-2017 QuantConnect – Risk Control with Trailing Stops and Options Page 14 Buy Put Insure Dip
- 15. November-2017 QuantConnect – Risk Control with Trailing Stops and Options Page 15 Experiment 2: Buying Put Hedge SPY Backtest IBM Backtest
- 16. Covered Call, Selling Options Hypothesis November-2017 QuantConnect – Risk Control with Trailing Stops and Options Page 16 Buy Stock Sell Call Covered call works best on sideways or downward markets.
- 17. November-2017 QuantConnect – Risk Control with Trailing Stops and Options Page 17 Experiment 3: Selling Covered Call Not strictly “risk control” SPY Backtest IBM Backtest
- 18. Key Statistics IBM Experiment Sharpe Ratio Drawdown Alpha Control Study 0.844 2.7% 0.015 Trailing Stop 0.615 7% 0.005 Option Hedging 1.194 3.8% 0.032 Covered Calls 1.891 3.3% 0.057 November-2017 QuantConnect – Risk Control with Trailing Stops and Options Page 18 Key statistics from testing our experimental strategy against a downward/sideways trending asset; IBM.
- 19. Key Statistics SPY Experiment Sharpe Ratio Drawdown Alpha Control Study 0.944 3.6% 0.007 Trailing Stop 1.396 4.1% 0.015 Option Hedging 1.038 3.6% 0.004 Covered Calls 2.13 3.0% 0.042 November-2017 QuantConnect – Risk Control with Trailing Stops and Options Page 19 Key statistics summary from re-testing the control and experimental strategies against a trending asset; the SPY ETF.
- 21. Appendix
- 22. Our Research Environment November-2017 QuantConnect – Risk Control with Trailing Stops and Options Page 22
- 23. Coding the Idea, The Algorithm Lab November-2017 QuantConnect – Risk Control with Trailing Stops and Options Page 23
- 24. Going Live, Deploying to Live Trading November-2017 QuantConnect – Risk Control with Trailing Stops and Options Page 24