When to Trade — Timing & Sessions

Question 1 (10 marks)

(a) Gap calculation:

• Dollar gap = 255.20 - 248.00 = \7.20$ (1)
• Percentage gap $= \dfrac{7.20}{248.00} \times 100 = 2.903\% \approx 2.90\%$ (1)
• Classification: This is a full/breakaway gap up — the opening price ($255.20$) and the entire opening range low ($254.10$) sit above Thursday's close ($248.00$), so the gap is not filled at all in the range; there is no overlap with the prior candle. (1)

(b)

• Entry (break above OR high) = \257.00$ (1)
• Stop (OR low) = \254.10$ (1)
• Risk per share = 257.00 - 254.10 = \2.90$ (1)
• Reward = 262.80 - 257.00 = \5.80$; Reward:Risk$= \dfrac{5.80}{2.90} = 2.0$(i.e.$2:1$) (1)

(c) Any two of (1.5 each):

• First 15 min has the widest spreads and fastest, most erratic price swings as overnight orders and pre-market imbalances clear — false breakouts are common.
• On a gap day the opening range is unusually large/volatile; stops placed at the range low have high $$$ risk and can be run.
• Price discovery is incomplete: institutions haven't finished positioning, so early direction frequently reverses ("opening reversal"). Waiting for the range to establish (15–30 min) gives cleaner levels.

Question 2 (10 marks)

Total volume $= 40{,}000{,}000$. Phase volumes:

• Opening $= 0.22 \times 40{,}000{,}000 = 8{,}800{,}000$
• Late-morning $= 0.28 \times 40{,}000{,}000 = 11{,}200{,}000$
• Midday $= 0.15 \times 40{,}000{,}000 = 6{,}000{,}000$
• Power hour $= 0.35 \times 40{,}000{,}000 = 14{,}000{,}000$ (1 for correct phase volumes)

(a) Capacity at $8\%$ cap per phase:

• Opening: $0.08 \times 8{,}800{,}000 = 704{,}000$ shares
• Late-morning: $0.08 \times 11{,}200{,}000 = 896{,}000$
• Midday: $0.08 \times 6{,}000{,}000 = 480{,}000$
• Power hour: $0.08 \times 14{,}000{,}000 = 1{,}120{,}000$ (2)

The order is only $90{,}000$ shares — every single phase individually provides ample capacity (smallest, midday, gives $480{,}000 \gg 90{,}000$). (1)

Opening + power hour combined cap $= 704{,}000 + 1{,}120{,}000 = 1{,}824{,}000 \gg 90{,}000$, so they comfortably suffice. (1)

(Award full marks for correctly comparing capacities to the 90k order and concluding all phases suffice.)

(b) Even though midday capacity ($480{,}000$) technically exceeds the order, the trader should avoid concentrating there because midday is the lowest-liquidity phase ($15\%$ of volume). Two costs (1.5 each):

• Wider bid-ask spreads → higher transaction cost per share.
• Higher slippage / market impact — thin resting liquidity means a large order moves price more, and choppy directionless action gives poor fills. (3)

(c) Any sensible schedule totalling $90{,}000$ within caps, e.g.:

• Opening: $30{,}000$; Late-morning: $30{,}000$; Power hour: $30{,}000$ (each well under its cap). (2)
• Bonus reasoning: front- and back-loading into the two highest-volume windows minimises impact.

Question 3 (10 marks)

(a) Two volatility windows:

• Wednesday 2:00 PM rate decision and Friday 8:30 AM employment data. (1)
• Ranking for an overnight holder: the rate decision poses greater immediate risk because it hits while the trader is already holding into it (position is live through the release). The Friday data is two days away, giving the trader time to flatten/reduce first. (2)
• Justification: overnight/gap risk is greatest when a scheduled high-impact event occurs before the trader can react and while leverage is applied. (1)

(b)

• Markets price in expectations; a met expectation ("no change" as forecast) is largely already in the price, so the headline itself may not move price much. (1)
• A surprise (outcome differs from consensus) forces rapid repricing → large move. (1)
• A "no change" can still move markets sharply because the forward guidance / tone / statement (hawkish vs dovish language, dot plots, press conference) delivers new information even when the rate itself is unchanged. (1)

(c) Any reasonable action with trade-off (action 2, trade-off 1):

• Reduce position size / cut leverage before 2:00 PM (or fully flatten). Trade-off: gives up potential upside if the move goes your way, and incurs transaction costs — you sacrifice expected profit to cap tail risk. (3)
• Alternatives accepted: buy protective options/hedge (cost = premium), widen mental stops but reduce size, etc.

Question 4 (10 marks)

(a) Pinning:

• Near a strike with huge open interest, price tends to gravitate toward and "stick" at that strike into the close on expiry. (1)
• Mechanism: market makers who are short options hedge via delta-hedging (gamma). As price rises above the strike, they sell the underlying to stay delta-neutral; as it falls below, they buy — this mean-reverting hedging flow pushes price back toward the strike. (2)
• Additional driver: option holders/writers closing positions and the incentive to have max options expire worthless (max-pain effect). (1)

(b) (1 each):

• Gamma: extremely high (near-the-money, near-expiry options have peak gamma) on expiry Friday vs. modest on normal Wednesday. (1)
• Pinning pressure: strong magnetic pull to the strike Friday afternoon; essentially absent midweek. (1)
• Liquidity: expiry afternoons can be liquid overall but erratic near the pin with sharp late unwinds; Wednesday midday is simply thin/quiet (midday lull). (1)

(c) (reasoning 2, obstacle 1):

• Recommendation: Avoid (or heavily reduce) a directional breakout on the pinned stock. Pinning is mean-reverting, which is hostile to breakout trades — breakouts get sucked back to the strike. (2)
• Single biggest structural obstacle: market-maker gamma hedging that actively fades any move away from the \100$ strike. (1)
• (A trader wanting to trade this should wait for the pin to break after expiry, or trade a mean-reversion/fade instead.)

Question 5 (10 marks)

(a) Example table (accept equivalent well-justified answers) (1 per day):

(b)

• Overnight/gap risk: holding a stock through its earnings release exposes the position to a large unpredictable gap (up or down) at the next open, unbounded by intraday stops — stops don't protect against gaps. (1.5)
• One action (1.5): reduce position size before the report, OR buy a protective put / use an options collar / straddle-hedge, OR exit before the announcement and re-enter after the reaction is known. (3)

(c) Two worst windows to initiate (1 each):

• Tuesday just before the 8:30 CPI release — entering blind into a scheduled high-impact event is a coin-flip on a gap.
• Friday power-hour / expiry afternoon — pinning and gamma unwinds create erratic, unreliable directional signals. (Also acceptable: midday lull — thin, choppy, poor fills.) (2)

[
  {"claim":"Q1a: percentage gap = 2.903%","code":"gap=Rational(720,100); pct=gap/248*100; result = abs(float(pct)-2.903225806)<1e-6"},
  {"claim":"Q1b: reward-to-risk ratio = 2.0","code":"risk=Rational(2900,1000); reward=Rational(580,100); result = simplify(reward/risk)==2"},
  {"claim":"Q2: midday phase 8% capacity = 480000 shares","code":"total=40000000; midday=Rational(15,100)*total; cap=Rational(8,100)*midday; result = cap==480000"},
  {"claim":"Q2a: opening+power hour combined 8% cap = 1824000","code":"total=40000000; opn=Rational(8,100)*Rational(22,100)*total; ph=Rational(8,100)*Rational(35,100)*total; result = opn+ph==1824000"},
  {"claim":"Q2: order 90000 fits smallest phase capacity","code":"total=40000000; midday_cap=Rational(8,100)*Rational(15,100)*total; result = 90000 < midday_cap"}
]