Double and Triple Witching Fridays, wfn
Joe Dunhill
Senior Market Analyst
It might sound like something out of MacBeth, but Triple Witching Friday is actually a term applied to a significant financial
event than can impact your investing strategy. First, some background:
Most sophisticated investors use options to enhance their portfolio returns, or employ the use of options to reduce the risk
of their investments loosing value over time. An option is essentially a contract to purchase a security at a fixed price.
There are basically three types of options: Equity Options (on stocks), Index Options (on various indices), and Futures
Options (on the Futures Contracts of commodities and currencies) are all traded on exchanges and can be purchased or sold by individual investors.
Under the option agreement, all of the above options expire after a set time period. The expiration of these options is set for the third Friday in a pre-determined month. Because of the nature of our Roman Calendar, expiration Friday for one class ofoption may coincide with the expiration of another class of option. When two classes of options share a common expirationFriday, that Friday is called Double Witching Friday, or simply "Double Witch." When all three classes of Options share the same expiration Friday, it is called Triple Witching Friday, or simply-Triple Witch".
The investor needs to realize that sophisticated traders, portfolio managers and hedge fund managers compose complex money making strategies and schemes. These complex financial plans are subject to market unknowns, and therefore
managers engineer alternative scenarios that limit their downside risk. A considerable ingredient in these financial plans isoptions management and manipulation. The design and manufacturing of these complex plans is called "Winding a position". Like a watch spring, these plans have engineered into them potential financial energy which may either be enhanced or weakened over time as economic conditions ebb and flow throughout the market cycle.
Because options expire at a given time, financial managers are under the gun to either engage a certain tack or close and abandon a certain tack. This requires closing a position or covering a position in options. When an options position is "closed" or "covered," it is called "un-winding a Position".
Triple Witch Friday’s will therefore experience significantly more market action and volume because managers un-wind their positions in expectation of options expiring. In fact, the action of un-winding positions may take place over a number of days prior to a Friday on which options are set to expire.
Investors need to realize that Triple Witch will influence the market in a variety of ways that may not appear to have any rational basis, and be prepared for the volatility. An astute investor will have Options Expiration Fridays inked in red on his/her calendar and be prepared for the ride and the hype. |
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