3433-vol. 6 issue 2-3.pmd - iarfc

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122 Journal of Personal Finance Table 4 Bull Call Spread vs. Stock Investment: Monthly Return January 1990 – December 1992 & January 2000 – December 2003 Bull Call Spread a Stock Investment Dow Jones Average Standard Sharpe Average Standard Sharpe Companies Return Deviation Ratio b Return Deviation Ratio Alcoa -24.23% 22.17% -1.11 0.37% 8.78% 0.00 AIG -19.34% 25.41% -0.77 0.59% 8.19% 0.03 Altria Group -13.42% 25.15% -0.55 1.91% 8.95% 0.18 AT&T -12.26% 35.24% -0.36 0.05% 14.18% -0.02 Boeing -15.93% 28.85% -0.56 0.44% 10.39% 0.01 Citigroup -17.46% 28.48% -0.63 1.38% 9.91% 0.11 Caterpillar -16.59% 23.30% -0.73 1.12% 8.87% 0.09 Coca-Cola -13.26% 29.95% -0.45 -0.30% 10.40% -0.06 DuPont -13.20% 32.72% -0.41 -0.02% 7.33% -0.05 Disney -21.20% 20.75% -1.04 -0.16% 12.43% -0.04 Eastman Kodak -8.03% 44.63% -0.19 -0.25% 9.87% -0.06 Exxon Mobil -15.54% 26.26% -0.60 -0.23% 7.95% -0.07 General Electric -16.31% 26.53% -0.63 0.27% 8.85% -0.01 General Motors -10.83% 29.49% -0.38 -0.12% 10.87% -0.04 Hewlett-Packard -16.57% 26.92% -0.63 0.97% 12.07% 0.05 Home Depot -18.86% 27.65% -0.69 2.05% 10.79% 0.16 Honeywell -24.34% 34.44% -0.72 0.86% 11.18% 0.05 IBM -12.16% 19.36% -0.65 -0.85% 9.45% -0.13 Intel -12.28% 50.36% -0.25 2.38% 14.05% 0.15 Johnson & Johnson -14.47% 69.13% -0.21 1.00% 7.50% 0.09 McDonald’s -16.49% 21.37% -0.79 0.34% 8.35% 0.00 Merck -17.13% 26.29% -0.66 0.39% 7.66% 0.01 Microsoft -20.23% 29.38% -0.70 2.53% 9.89% 0.22 MMM -21.03% 17.66% -1.21 1.17% 6.52% 0.13 Pfizer -19.68% 20.89% -0.96 1.14% 8.71% 0.09 Procter & Gamble -19.33% 16.49% -1.19 0.81% 8.56% 0.06 Verizon -16.62% 30.89% -0.55 -0.26% 7.28% -0.08 Wal-Mart -14.10% 35.61% -0.41 1.36% 7.95% 0.13 a This spread in<strong>vol</strong>ves buying one contract of the call option that has the strike price right below the stock price, and selling one contract of the call option that has the strike price right above the stock price. b The Sharpe ratio is computed by dividing the mean return on the spread less the mean return on Treasury bills by the standard deviation of return on the spread. ©2008, IARFC All rights of reproduction in any form reserved.
Volume 6, Issue 2 & 3 123 Hypothesis Testing: (1) Average Returns Wilcoxon signed rank test = 4.62 (p-value = 0.00) are equal. van der Waerden test = -4.34 (p-value = 0.00) (2) Standard Deviations Wilcoxon signed rank test = 4.62 (p-value = 0.00) are equal. van der Waerden test = 4.34 (p-value = 0.00) (3) Sharpe Ratios Wilcoxon signed rank test = 4.62 (p-value = 0.00) are equal. van der Waerden test = -4.34 (p-value = 0.00) As a robustness check, we implemented a bull call spread slightly differently. Instead of trading calls with three months to expiration, calls were traded with just one month to expiration. It should be noted that, compared to three-month calls, one-month calls have less time value, and the time value of money decays faster, because time value of an option decays fastest during the last month of its life. 8 Although not reported here, the results are qualitatively the same. 9 For every single stock, the average return on the call spread was less than that on the stock, and the standard deviation on the call spread was higher than that on the stock. As another robustness check, an out-of-sample test was done using the data from the more recent period, covering 2004 – 2006. Table 5 presents the performance results for the bull call spread and the outright stock investment for the period of January 2004 – December 2006. The results show that the bull call spread worked for investors only for three stocks: AT&T, Boeing, and Exxon Mobil. In all the other cases, the bull call spread produced lower average returns and higher standard deviations. Even in the case of those three stocks, the standard deviations were substantially higher for the bull call spread than for the stock. It is clear from the results that the bull call spread failed to generate better results than stocks even in recent years despite the fact that the bid-ask spread recently declined. Research & Theory
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