I have been trying to understand why the SPI and XJO follow the same intraday and daily trajectory. I have asked a number of people but have not yet obtained a satisfactory answer. On any given trading day a multitude of people trade the top 200 Australian stocks, with little or no concern for the trajectory of the SPI. Equally, a multitude of people trade the SPI on any given day without concern for the trajectory of the XJO. I for one trade off a 1 min. SPI chart with virtually no concern for the XJO. This indicates that neither group is attempting to mimic the other. How is it then that the trajectory of each is uncannily similar; even when each is compared on a 1 min intraday chart?

The SPI and the XJO follow the same daily trajectory because they are essentially the same thing, an instrument representing the weighted average mean of the top 200 shares on the ASX.

The SPI is a forward looking contract however and so it runs at either a premium or a discount.

At the moment with the market in ‘bear’ mode it is trading at a discount of 10 to 20 points. This means that the SPI represents the collective group of buyers and sellers seeing the future value of the ASX200 Index at a 10 – 20 point discount to today’s index value. In the bull market leading up to November, the SPI was trading at a 10 to 20 point premium at any given time, representing a forward view that the market was pricing in a higher future value for the Index.

The SPI is an instrument used to bet on the forward price.

 

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The SPI tends to lead the Index during the day as it is ‘forward looking’. If the institutions have large selling orders or are aware of large selling orders coming through, then they will short the SPI ahead of the selling. Likewise if they have large buying orders or there is generally a lot of buying coming in then they will buy the SPI. Many large orders come in from US institutions.

When I was a full time SPI trader, I would keep a screen up with the top 50 list. This helped me determine the feeling of the market and see where the institutions were heading. If the page went generally green, ie heading up, I would be looking at keeping long SPI positions or adding to SPI Longs.

The bigger institutions trade an arbitrage between a basket of index stocks and the SPI. Back in the days when you could see broker codes you could see the activity by the big brokers in the SPI. Small traders usually end up as fodder for the big desks.

You will find that both markets are controlled by institutions to the tune of more than 90% so you can be assured that both the physical market and the futures market are watched carefully.

So when you say that “a multitude of people trade the SPI on any given day without concern for the trajectory of the XJO”, this is incorrect. The big institutions rebalancing their portfolios and actioning large corporate orders for stock are also hedging on the futures market. That is why there is a direct and strong correlation. A two-minute chart might help eradicate market noise as a one minute doesn’t give you much to work with and has potential to be too choppy.

Disclaimers: The views expressed in this article are not intended as general advice.