Spread Trading - Strategy & Calculation - Commodities

There are two types of strategies for Spread: Bull Spread & Bear Spread

Bull Spread
This strategy is applied when the spread gap between the two contracts (Gold Far month contract – Gold Near month contract or Lead Oct contract – Zinc Oct contract) is more or widen.

Bear Spread
This strategy is applied when the spread gap between the two contracts (Gold Far month contract – Gold Near month contract or Lead Oct contract – Zinc Oct contract) is less or narrow (gap between the two contract become “Zero” or “negative” figs.)


Calculation:
Here, I’m taking the example of spread between the Lead & Zinc (my favourite one):

First take the historical data for last one month from MCX website (mcxindia.com – Market Data – Bhav Copy – Bhav Copy Commoditywise)

Then take the spread gap between the closing price of each day (Spread Gap = Lead Closing Price – Zinc Closing Price) for last one month

Take the "Average" of those spread gap of the closing prices and also the "standard Deviation" of those spread gap of the closing prices for last 20-25 days.

Now we will have two figs. That is “Average” & “Standard Deviation”.

Now comes the final part that is the decision making and implementation of Spread strategy:

Bull Spread Range = Average + Standard Deviation

If the spread Gap > Bull Spread Range, then we will go for Bull spread strategy. It means we will Sell the far month contract or Lead contract and Buy the near month contract or Zinc contract.

Bear Spread Range = Average - Standard Deviation

If the spread Gap < Bear Spread Range, then we will go for Bear spread strategy. It means we will Buy the far month contract or Lead contract and Sell the near month contract or Zinc contract.

Important point:

I have attached an Excel file: Spread Analysis – Lead & Zinc for your reference to understand the calculations.

For calculating the spread gap between the two contracts, I always subtract from Far month to near month contract for spread calculation. If you will change this calculation scenario then your strategy will also change.

For lead & zinc spread, I found that there Bull & Bear spread gap is around Rs. 2.5 to 0 even to -0.5. Any time if you find a spread gap of Rs. 4 to 5 or Rs. -2 to -3 will be a very good opportunity for spread in Lead & Zinc.

For Gold, Bull & Bear spread gap is around Rs. 140 to 80/70.

Same way you can find the spread gap for other commodities also. Continues study and watch will help you to understand the spread gaps for different commodities.

If anyone can have it live for intraday then it will be a very good opportunity to do & apply spread.

Spread Analysis - Lead and Zinc.zip

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