0DTE Oracle: Find and Backtest 0DTE Options Trades

0DTE Oracle is a new tool that helps us find and analyze 0DTE and next day trading opportunities. It aims to solve the problem of probabilities and expected value (EV) being less accurate for 0DTE trades by providing backtest results to help identify quality trades instead of relying on probabilities.

Each trade's metrics are backtested against the underlying's previous 1 year of intraday minute data to see how trading a similar position daily would have performed over that time.

Similar to Trade Ideas, it analyzes the trades currently available in the market to produce a list of actionable trade opportunities:

Why We Love It

We have been testing this tool internally and the team is hooked. The ability to quickly find and place quality 0DTE trades empowers us with the confidence to trade daily. We hope you will feel empowered as well. Here are some of the things we like about it:

• Quickly choose between 0DTE and next day trades ranked by backrest results
• Time consuming analysis done in advance - including the ability view and rank many different leg combinations at a glance 
• New positions available every day based on time of day and current market opportunities
• Backtest results give new insight into how 0DTE trades perform over time 
• SPX available with cash settlement to avoid assignments and favorable tax treatment 
• Run custom backtests to see how positions perform in specific market conditions

Why We Created It

As part of our internal research we discovered the probabilities for shorter duration trades, particularly 0DTE and next day trades, are less accurate than longer duration trades. We believe this is because the time component of the Black-Sholes model used to calculate the probabilities is too short. The inaccuracy of probabilities causes other metrics that depend on it, e.g. expected value (EV) and alpha, to be less accurate as well. 

Since pre-calculated math and probabilities are a fundamental part of removing bias and quick decision making in Options Trading 2.0, the inaccuracy of probabilities makes finding quality 0DTE and next day trading opportunities challenging. A recent addition to the platform, Earnings Edge, solved a similar issue for earnings reports by backtesting the trades currently available in the market across the previous 5 years of earnings reports. 

This sparked the idea for the 0DTE Oracle. It analyzes the 0DTE trades currently available in the market and backtests them against the previous 1 year of intraday minute pricing data to see what would have happened if you traded this position every day, with the exact same metrics, at this time of day, and held to expiration. It presents the best opportunities in an actionable list to sort and filter to find a quality trade based on your criteria.

You can also run custom backtests on up to 3 years of minute data and apply entry conditions and filters to see how it would have performed under custom market conditions.

Key Assumptions and Considerations

• Probabilities, EV and Alpha are less accurate for 0DTE and next day trades because the time component of the Black-Scholes model is too short
• Different position entry metrics (OTM %, spread width, max loss, max profit, etc) alter backtest results 
• Each day the available position metrics are different and need to be retested
• Time of day alters available position metrics and changes backtest results

How It Works

• Look up every available position from at-the-money (ATM) to 3% out-the-money (OTM) in 0.1% increments with each possible spread width ($5, $10, $15, $20, $25 for SPX and $0.50, $1, $2, $2.50, $5 for SPY, XSP and QQQ) from 9:31AM to 3:55PM EST
• Backtest the live position metrics currently available based on opening at that time of day and holding until expiration
• Legs are simulated at the same OTM % + spread width without rounding to test the current metrics consistently

This is different from backtesters based on a predetermined position entry strategy which test strike prices at varying OTM % and alternate premium and risk values available in the past - which produces completely different position metrics for each trade in the backtest.

We believe the metrics at the time of position entry (reward/risk, OTM %, spread width, max loss, max profit, etc) are THE most important part of getting into favorable trading opportunities so we decided to backtest the exact metrics available today against historical underlying price data instead of looking up completely different position metrics from the past.

Here is an example of backtest results for a 0DTE SPX Iron Butterfly opened at 12:26pm:

Creating Custom Backtests

Custom backtests allow you to filter the days the backtest opens positions based on market conditions, underlying metrics, technical indicators, FOMC events and day of week. 

For underlying metrics and technical indicators, the current value is displayed and you can specify a range to allow. For example, if RSI is currently 66 you can elect to allow a range of 60-90. 

Here’s a screenshot of the custom backtest options:

Thanks for being a part of the Option Alpha family. We look forward to hearing your feedback in the community.

With love,

The Option Alpha Team