Markets stabilize despite re-entry into negative-gamma, an environment characterized by heightened two-way volatility as a result of options-based hedging pressures.
So long as there is trade below our Volatility Triggers, two-way volatility ought to persist.
Decay in customer negative delta options exposure (e.g., long put and/or short call) ought to decrease dealer positive delta risk (e.g., short put, long call).
If dealer +delta declines, less -delta is needed to hedge. This is supportive.
Was there to be another wash, coupled with new demand for protection and heightened implied volatility (IV), this would further instability and potentially pressure markets lower. Compression in IV, all else equal, should, though, serve as a boost to markets.
Today’s Recap:
From open to close, the S&P 500 Index (CASH: SPX) (ETF: SPY) (FUTURE: /ES) ended higher 0.49%, within this morning’s 1-day implied move reading of 1.92%.
The CBOE Volatility Index (INDEX: VIX), a measure of implied volatility (IV), fell 1.14 (4.68%), also.
In line with this morning’s expectations, quoted levels were held.
On rejection of the key $4,450.00 level, volatility compressed which further boosted markets, as a result of associated hedging pressures.
On analysis of SpotGamma’s Hedging Impact of Real-Time Options (HIRO) indicator, below, positive options delta trades had dealers trading responsively against forecasted SPY turning points, today, buying into weakness and selling strength.
The Context:
Alongside news the U.S. added 467,000 jobs in January, beating estimates of 125,000, stock index futures sold as odds of a March rate hike rose.
In dealing with inflation, higher interest rates may reduce the present value of future earnings making stocks, especially those that are high growth, less attractive.
The fundamental, “real-money selling” tied to the aforementioned event and recent earnings announcements fed into options positioning in some of the index heavyweights and indexes themselves; a break lower pushed SpotGamma’s gamma index into negative gamma territory as products like AAPL, FB, GOOGL, TSLA, SPY, and QQQ registered heavy interest in negative-delta options exposures (as pointed to in the 2/3/2022 PM Note).
Given the flip back into a negative-gamma regime (an environment in which options delta rises with stock price falls and falls with stock price rises), we suggested to our audience they were likely to see larger ranges as dealers (the counterparties to customer options trades) were to hedge in a manner that exacerbates movement (i.e., buying strength and selling weakness).
Moreover, what’s next?
The February 18 monthly options expiration (OPEX) is of significant interest. The reason being is that on selling in past weeks, participants legged heavy (primarily) into protection in shorter-dated expiries through the month of February.
As time and volatility trend to zero, coupled with the removal of premiums tied to events like Friday’s payrolls report, a window of strength, so to speak, opens wider as protection decays.
Dealers who (we assume) are short downside put protection (a positive delta trade that makes money if stocks go up, all else equal), for instance, have less +delta exposure to hedge.
If dealers have less +delta, they cover the stock and futures they are short (reduce -delta), further supporting the market.
Since markets have moved quite far from the “lower bound” discussed in detail, last week, a good chunk of protection has been covered/removed and markets are (now) more prone to instability on movement lower.
What this means is that if the market starts to decline, new demand for protection (coupled with real money selling that pushes markets lower) portends dealers supporting another round of selling through their hedging activities of increased exposure to positive delta.
The point to make, however, is that in periods of severe volatility and/or selling (when volatility is so high that it may actually reduce the need to add as much in “linear” delta hedges), dealers may be able to advantageously reduce delta hedging (sell less).
This may serve to reduce volatility.
Expectations:
A negative gamma environment promotes instability, so long as the S&P 500, at least, trades below its $4,525.00 Volatility Trigger (gamma-flip) level.
Key to watch for is a continued expansion in measures of implied volatility, a dynamic that would bid protection (and dealer’s exposure to positive delta) and solicit increased dealer selling.
A cross back into a positive gamma environment, compression in volatility, and an addition of interest in options at higher prices further out in time (i.e., demand for S&P and Nasdaq call options which can extend rallies when put covering stalls out), may serve to support prices.
| SpotGamma Proprietary Levels | Latest Data | Previous | SPY | NDX | QQQ |
|---|---|---|---|---|---|
| Ref Price: | 4526 | 4501 | 446 | 14813 | 353 |
| SpotGamma Imp. 1 Day Move: | 1.92%, | Est 1 StdDev Open to Close Range (±pts): 87.0 | |||
| SpotGamma Imp. 5 Day Move: | 5.69% | 4437 (Monday Ref Px) | Range: 4185.0 | 4689.0 | ||
| SpotGamma Gamma Index™: | -0.73 | 0.44 | -0.27 | -0.00 | -0.18 |
| Volatility Trigger™: | 4525 | 4520 | 450 | 14790 | 360 |
| SpotGamma Absolute Gamma Strike: | 4500 | 4600 | 450 | 14800 | 350 |
| Gamma Notional(MM): | $-230 | $-395 | $-1,265 | $1 | $-924 |
| Additional Key Levels | Latest Data | Previous | SPY | NDX | QQQ |
|---|---|---|---|---|---|
| Zero Gamma Level: | 4557 | 4566 | 0 | 0 | 0 |
| Put Wall Support: | 4300 | 4300 | 445 | 13500 | 350 |
| Call Wall Strike: | 4700 | 4700 | 460 | 14800 | 375 |
| CP Gam Tilt: | 0.83 | 0.79 | 0.61 | 1.11 | 0.44 |
| Delta Neutral Px: | 4469 | ||||
| Net Delta(MM): | $1,476,586 | $1,408,179 | $159,126 | $32,503 | $84,180 |
| 25D Risk Reversal | -0.05 | -0.11 | -0.04 | -0.01 | -0.01 |
| Key Support & Resistance Strikes: |
|---|
| SPX: [4600, 4500, 4450, 4400] |
| SPY: [450, 448, 445, 440] |
| QQQ: [360, 355, 350, 345] |
| NDX:[15300, 15000, 14800, 14000] |
| SPX Combo (strike, %ile): [4497.0, 4447.0, 4646.0, 4397.0, 4556.0] |
| SPY Combo: [444.04, 439.13, 458.78, 434.21, 449.85] |
| NDX Combo: [14664.0, 14871.0, 15123.0, 14457.0, 15079.0] |
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