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Daily Brief For August 17, 2022

Daily commentary for U.S. broad market indices.

The daily brief is a free glimpse into the prevailing fundamental and technical drivers of U.S. equity market products. Join the 800+ that read this report daily, below!

Graphic updated 7:00 AM ET. Sentiment Risk-Off if expected /ES open is below the prior day’s range. /ES levels are derived from the profile graphic at the bottom of the following section. Levels may have changed since initially quoted; click here for the latest levels. SqueezeMetrics Dark Pool Index (DIX) and Gamma (GEX) calculations are based on where the prior day’s reading falls with respect to the MAX and MIN of all occurrences available. A higher DIX is bullish. At the same time, the lower the GEX, the more (expected) volatility. Learn the implications of volatility, direction, and moneyness. Breadth reflects a reading of the prior day’s NYSE Advance/Decline indicator. VIX reflects a current reading of the CBOE Volatility Index (INDEX: VIX) from 0-100.

Fundamental

Working through some in-depth coverage for this fundamental section. Report back, soon.

Positioning

As of 7:00 AM ET, Wednesday’s expected volatility, via the Cboe Volatility Index (INDEX: VIX), sits at ~1.07%. Tighter ranges, as a result of a sticky, long-gamma environment (in which the participants, who are on the other side of customer trades, hedge in a manner that takes from volatility) are likely to remain.

The potential for trading ranges to expand increases after large options expiries this week.

Further, given where realized (RVOL) and implied (IVOL) volatility measures are, as well as skew, it is beneficial to be a buyer of options structures. It is weeks prior to this near-vertical price rise that we mulled rotating into dynamic (options) bets and structures lined up against some key resistances.

Graphic: Retrieved from Bloomberg. Drawn on by Physik Invest.

Moreover, where are we, right now?

As well explained in the Daily Brief for July 21, 2022, heading into the 2022 decline, institutions repositioned and hedged, even allocating to “commodity trend following,” per our Daily Brief for July 15, 2022, which worked well the first two quarters.

The monetization and counterparty hedging of existing customer hedges, as well as the sale of short-dated volatility, particularly in some of the single names where there was “rich” volatility, into the fall, lent to lackluster performance in equity IVOL and index mean reversion.

This trend came to an end as entities were squeezed out of trades not working (i.e., participants rotated out of volatility and commodities). This, alongside a re-leveraging on inflation cooling and better-than-expected earnings, bolstered a historic near-vertical price rise in equity markets.

Graphic: Retrieved from The Market Ear. Via Goldman Sachs Group Inc.

Continuing to bolster the near-vertical price rise is a rotation into bets on upside (call options). It is the hedging of this exposure, by counterparties, that can add to the follow-on buying (i.e., in selling a call option, the liquidity provider will, all else equal, buy underlying stock).

Graphic: Updated 8/15/2022. Retrieved from SqueezeMetrics.

Accordingly, participants have been squeezed out of their (put) volatility hedges, “on the equity side,” and are now “less and less hedged,” as Kai Volatility’s Cem Karsan explains.

Given this, the “market can really begin to respond to the core macro factors.”

It is the case that when the macro re-leveraging ceases, and the present supportive volatility conditions ease, “the incremental effects” of liquidity (i.e., quantitative easing and tightening) may set the stage for a rollover.

Graphic: Via Physik Invest. Data compiled by @jkonopas623. Fed Balance Sheet data, here. Treasury General Account Data, here. Reverse Repo data, here. NL = BS – TGA – RRP.

If during this rollover, some shock was to surface, then the demand for hedges may assist in an “untethering” in IVOL, “one of the most supportive things into the decline,” Karsan explained.

Graphic: Retrieved from SqueezeMetrics. Learn the implications of volatility, direction, and moneyness.

So, what’s the takeaway?

The near-vertical price rise (alongside reports of better-than-expected earnings and the potential that inflation is beginning to cool) is sputtering. Follow-on support from a desire by participants to participate in upside synthetically and continued re-leveraging may ease in the next weeks.

Technical

As of 7:00 AM ET, Wednesday’s regular session (9:30 AM – 4:00 PM ET), in the S&P 500, is likely to open in the lower part of a negatively skewed overnight inventory, outside of prior-range and -value, suggesting a potential for immediate directional opportunity.

In the best case, the S&P 500 trades higher.

Any activity above the $4,271.00 VPOC puts into play the $4,294.25 HVNode. Initiative trade beyond the HVNode could reach as high as the $3,337.00 VPOC and $4,393.75 HVNode, or higher.

In the worst case, the S&P 500 trades lower.

Any activity below the $4,271.00 VPOC puts into play the $4,253.25 HVNode. Initiative trade beyond the HVNode could reach as low as the $4,231.00 VPOC and $4,202.75 RTH Low, or lower.

Click here to load today’s key levels into the web-based TradingView charting platform. Note that all levels are derived using the 65-minute timeframe. New links are produced, daily.
Graphic: 65-minute profile chart of the Micro E-mini S&P 500 Futures.

Considerations: Responsiveness near key-technical areas (that are discernable visually on a chart), suggests technically-driven traders with short time horizons are very active. 

Such traders often lack the wherewithal to defend retests and, additionally, the type of trade may be indicative of the other time frame participants waiting for more information to initiate trades.

Definitions

Volume Areas: A structurally sound market will build on areas of high volume (HVNodes). Should the market trend for long periods of time, it will lack sound structure, identified as low volume areas (LVNodes). LVNodes denote directional conviction and ought to offer support on any test. 

If participants were to auction and find acceptance into areas of prior low volume (LVNodes), then future discovery ought to be volatile and quick as participants look to HVNodes for favorable entry or exit.

POCs: POCs are valuable as they denote areas where two-sided trade was most prevalent in a prior day session. Participants will respond to future tests of value as they offer favorable entry and exit.

About

After years of self-education, strategy development, mentorship, and trial-and-error, Renato Leonard Capelj began trading full-time and founded Physik Invest to detail his methods, research, and performance in the markets.

Capelj also develops insights around impactful options market dynamics at SpotGamma and is a Benzinga reporter.

Some of his works include conversations with ARK Invest’s Catherine Wood, investors Kevin O’Leary and John Chambers, FTX’s Sam Bankman-Fried, ex-Bridgewater Associate Andy Constan, Kai Volatility’s Cem Karsan, The Ambrus Group’s Kris Sidial, among many others.

Disclaimer

In no way should the materials herein be construed as advice. Derivatives carry a substantial risk of loss. All content is for informational purposes only.

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