On Friday, December 17, the US market is about to usher in the last "four Wizards Day" of the year, and the market is likely to fluctuate a lot.

1. What is the "four Wizards Day"?

The "four Wizards Day" is the quarterly maturity date of financial derivatives for US stocks, which takes place on the third Friday of March, June, September and December of each year.

On that day, stock index futures, stock index options, individual stock futures and individual stock options expire at the same time. The last trading hour of the day is four witch hours (Quadruple Witching Hour), that is, 3: 00 p.m. to 4: 00 p.m. New York time. During the expiration period, the trading volume increased sharply and the volatility of the market intensified.

In the last trading session of the "Siwu Day", investors were eager to close their positions, resulting in a substantial increase in trading volume. therefore,The "Siwu Day" is usually accompanied by large fluctuations in the prices of stocks and derivatives.

The impact of "Siwu Day" on the stock market is most obvious during the opening and closing periods of the day, which is usually the time when futures and options expire.Investors buy and sell stocks during this period of time in order to fulfill the obligations of futures option holders. But for long-term investors, the impact of the "four Wizards Day" is minimal.

Generally speaking, there will be some sharp fluctuations in the trading days in the last few days of the year, and large fund managers will adjust their positions. On the day of the four Wizards, the trading volume is significantly enlarged, especially at the beginning of the session and during the four witch hours, as traders close their positions before the expiration of options and futures contracts. These positions are then usually reopened in contracts that expire later.

In addition to a significant increase in trading volume related to the offset of trading contracts, the last hour of trading may also lead to price inefficiency, resulting in arbitrage opportunities. As a result, the market is filled with anxiety, anxiety about missed opportunities, and a strong desire for speculative trading. Many arbitrageurs will continue to look for suitable trading opportunities during this period in order to make a good profit.

2. Overview of the "four Wizards"

Siwu refers to four types of commodities: stock option contracts, stock index options, individual stock futures and stock index futures.

1. Stock option contract

Option is a kind of derivative whose value is mainly related to the value of the underlying securities (underlying shares). The option contract gives the buyer an opportunity to complete the transaction of the underlying securities at a preset price (strike price) on or before a specific date (maturity date).

Options can be divided into call options and put options. When an investor buys a call option, if the price of the option on the expiration date is higher than the strike price, the investor can exercise the right or convert it into stock and cash out of it. When investors buy put options, investors can profit from the fall in stock prices as long as the stock price is lower than the strike price on the maturity date.

The option expires on the third Friday of each month, and the purchase or sale of the option requires the payment of a fee or premium in advance.

2. Stock index options

Stock index options are similar to stock option contracts, but the target is not to buy a single security, but an index (such as the S & P 500). Options give investors trading rights, not obligations. At the expiration date, the profit of the transaction is determined by the strike price of the index price or value above or below the strike price of the option.

It is worth noting that index options do not provide ownership of individual stocks, transactions are settled in cash, and on the expiration date, the difference between the option price and the strike price determines profit or loss.

3. Individual stock futures

A futures contract is a legal agreement to buy and sell assets at a fixed price on a specified future date. Futures contracts are standardized, with fixed quantities and expiration dates. Futures trading takes place in the futures exchange, and the buyer of the futures contract has the obligation to purchase the underlying asset at maturity, while the seller has the obligation to sell the underlying asset at maturity.

Individual stock futures refer to the obligation to deliver related stocks when the contract expires, and each futures contract represents 100 positive shares. However, holders of stock futures cannot receive dividends because dividends are paid by the company to shareholders.

4. Stock index futures

Stock index futures are similar to individual stock futures, but the target of buying and selling is not a single stock, but an index. When the contract expires, the existing position will be offset and the profit and loss cash will be put into the investor's account.

Investors use stock index futures to bet on the direction of an index and can choose to buy if they think the index will rise or sell if they think the market will fall. Index futures can also be used to hedge stock portfolios so that portfolio managers do not have to sell their portfolios when the market falls.

3. What is the impact of the market?

As mentioned earlier, on the day of Siwu Day, the market trading volume will be significantly enlarged, one of the main reasons is that options and futures contracts will automatically settle with offset transactions.

In the case of options, for example, in-price options will be settled automatically on the expiration date. As a result, the number of these deals completed will increase significantly.

In addition, during the four Witch days, transactions involving large contracts may cause price fluctuations, which will provide arbitrageurs with the opportunity to profit from temporary price distortions. Arbitrage can quickly expand trading volume, especially when trading volume is large and repeated many times.

Some media have said that indexes such as the S & P 500 are likely to fall a week after the "four Wizards Day" because recent demand for the stock market has been exhausted. However, although the overall increase in daily trading volume of the four witches, it will not necessarily cause sharp fluctuations in the stock market.

Through the statistics of the trading volume and the rise and fall of the first three witch days in 2018 and 2019, as shown in the following figure.

In terms of trading volume, four times in 2018 and three times in the first three times in 2019 were significantly enlarged on that day. In addition, when the S & P 500 closed down on the four witch days, it fell on the first trading day of the following week, and even if there was a general decline, the magnitude was not the same. After the close of the day, it may fall or rise on the second trading day.

To sum up, the positive impact of Siwu Day on the market is the profit opportunities brought by the carry trade, that is, the increase in trading volume may lead to a rise in the market.

On the negative side, history shows that profitability will not improve, market gains are usually small, fluctuations bring gains, but losses are also obvious.

Therefore, investors can not only use historical data performance to predict the future trend of the market, but also need to be combined with market news to judge.