A fair backtest of the bull spread strategy for MSFT
A couple of weeks ago, hotpanera2 contended that a stock like MSFT just didn't have 9%-type drops within 60 days that would cause wipeouts of a bull spread strategy. But looking at the stats, the stock within the last year certainly HAS had such percentage drops - and a lot worse. In late January of this year, the stock was at $28.87 but at March 18 expiration, it was down to $24.80, a tank job of 17%.
On 4/29/10, MSFT closed at $31.00 but two months later on 6/29/10, it was just $23.31. That was a collapse of almost TWENTY-FIVE percent.
There have also been a number of drops of 5% or more. And whereas it would take something like a 9% drop to wipe out a F play such as the 14/15 he proposed, with a higher-priced stock like MSFT, just 5% or 6% does the trick. If he does a 25/26 spread with the stock at $25.25, just a 5% stock slide takes MSFT below the low end of the spread and results in a TOTAL WIPEOUT.
Needless to say, if this happens more than just very very occasionally or there is something like even a 3.2% drop that would lose half the investment, the strategy on balance just won't work over the longer haul.
In my next post, I will review the recent evidence.