Categories
Commentary

Daily Brief For May 2, 2022

The Daily Brief is a free glimpse into the prevailing fundamental and technical drivers of U.S. equity market products. Join the 200+ that read this report daily, below!

What Happened

Overnight, equity index futures auctioned off of Friday’s regular trade lows. Yields, the dollar, and implied volatility metrics were bid.

There were no changes in the newsflow’s tone this weekend; investors remain concerned over the implications of monetary policy shifts and inflation, as well as war, COVID, and the supply pressures associated.

Ahead is data on S&P Global Inc’s (NYSE: SPGI) U.S. manufacturing PMI (9:45 AM ET), as well as the ISM manufacturing index and construction spending (10:00 AM ET).

Graphic updated 6:30 AM ET. Sentiment Neutral if expected /ES open is inside of 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. SHIFT data used for S&P 500 (INDEX: SPX) options activity. Note that options flow is sorted by the call premium spent; if more positive, then more was spent on call options. 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.

What To Expect

Fundamental: The indexes continue to hold well in the context of severe weaknesses under the hood, so to speak, especially in the high-flying technology and growth of 2020-2021.

Stocks like Zoom Video Communications (NASDAQ: ZM) and Netflix Inc (NASDAQ: NFLX), the beneficiaries of the work-from-home trends, have de-rated substantially since the start of 2022.

Graphic: Via Bloomberg.

In spite of earnings growth (~10% for S&P 500 companies that have reported, per Bloomberg), “the reaction to earnings surprises in April was asymmetric,” and a display of “the outsized role played by outliers.” 

For context, “Mega-cap growth (MCG) & Tech earnings are missing by -6.0% at the aggregate level [while] the median company [is] beating by 5.7%.”

This is as inflation, among other factors, continues to bite into the “over-optimistic multiples driven by the assumption that pandemic-era performance could continue in perpetuity.”

Per Bank of America Corporation (NYSE: BAC), the S&P’s current P/E is way too high, given the current CPI.

Graphic: Via Bank of America Corporation. Taken from Bloomberg. “It’s straightforward common sense that higher inflation would lead to paying a lower multiple of earnings because you expect future earnings to be eaten into by inflation. And common sense is borne out empirically; all else equal, higher inflation does indeed tend to mean lower earnings multiples.”

Notwithstanding, trimming outliers, inflation may have peaked and that is a positive for those equity investors who think “inflation is high, but they’re confident that it’s transitory,” therefore current valuations are just.

Graphic: Via Bloomberg.

Per @ConvexityMaven, recession chatter is unwarranted. The economy is expanding and the only worry investors should have is “if the Fed cannot chill nominal GDP.”

That means “rates are going north” and, according to Bank of America Corporation’s Michael Hartnett, “asset prices must reset lower.”

Some investors, like the Japanese, have heeded this message and are offloading billions in Treasuries in anticipation of more attractive levels and “stabilization in long-dated yields.”

Perspectives: Some, including Credit Suisse Group AG’s (NYSE: CS) Zoltan Pozsar, believe market participants are in for a world of [much more] hurt as “central banks can only deal with nominal, not real chokepoints.”

“Banks’ stock buybacks are lowering SLRs as we speak, and the Fed is about to embark on QT, and these nominal balance sheet and liquidity trends, will at some point clash with the realities of a garden variety of supply chain issues,” as a result of geopolitical chokepoints.

Graphic: Per Bloomberg, “[E]very $1 trillion of QT will equate to a decline of roughly 10% in stocks over the next 12 months or so.”

Given Pozsar’s findings, “The Fed will do QE again by summer 2023.”

Positioning: Recall that the indexes are trading relatively strong, in comparison to constituents, especially those that are smaller technology and growth companies.

Essentially, “we’re two-thirds of the way through a dot-com type collapse,” explains Simplify Asset Management’s Mike Green.

“It’s just happened underneath the surface of the indices which is [that] … dynamic of passive flows supporting the largest stocks within the index, whereas the smaller stocks can be influenced to a greater extent by the behavior of discretionary managers.”

This liquidity supply, apart from passive flows, stems from index-level hedging pressures, also.

Here’s why, as borrowed from our April 27, 2022 commentary.

Participants are well-hedged and use weakness as an opportunity to buy into a less highly valued broader market.

Well-hedged means that customers (i.e., you and I) own protection against long equity exposure. So, that could mean customers own puts and/or are short calls. One of the most dominant flows is the long put, short call.

Such trade offers customers positive, yet asymmetric (gamma), exposure to direction (delta). In other words, negative delta and positive gamma. 

The counterparty has exposure to positive delta and negative gamma. If the underlyings trade lower and volatility rises, all else equal, the position will lose. To hedge against these losses, the counterparties will sell underlying into weakness.

If prices reverse and move higher, these counterparties will re-hedge and buy underlying.

Normally, as seen over the bull run of 2020 and 2021, markets are in an uptrend and there’s a strong supply of volatility. Often, customers sell more calls than puts and, in an uptrend, those calls solicit more active hedging than the put options.

Recall that the customer is short the call. That means the counterparty is long the call (a positive delta and gamma trade) and will make money if prices rise, all else equal. 

The hedging of this particular exposure (i.e., sell strength, buy weakness), in an uptrend, occurs slower (i.e., counterparts will allow their profits to run), and that’s what can help the market sustain lower volatility trends for longer periods.

When prices reverse and underlyings trade lower, put options solicit increased hedging activity. Given the nature of counterparty exposure to those puts, that hedging happens quickly and can take from market liquidity as to volatility (i.e., buy strength, sell weakness).

Graphic: Via SqueezeMetrics. Equity move lower solicits increased hedging activity of put options. Counterparties have negative gamma exposure to these puts. Therefore, to hedge, they buy strength and sell weakness, adding to realized volatility. This trend is ongoing.

So, what now?

Participants are most concerned (and hedging against) unforeseen monetary policy action and economic chokepoints like a potential Russian default. 

Investors will get clarity on some of these issues in the coming sessions.

Graphic: Via SpotGamma, the estimated gamma for calls by strike as a positive number and puts as a negative number on the S&P 500 ETF, the SPY. Notice the weight on the put side.

Barring a worst-case scenario, if markets do not perform to the downside (i.e., do not trade lower), those highly-priced (often very short-dated) bets on direction will quickly decay, and hedging flows with respect to time and volatility may bolster sharp rallies.

Graphic: Via SpotGamma. “SPX prices X-axis. Option delta Y-axis. When the factors of implied volatility and time change, hedging ratios change. For instance, if SPX is at $4,700.00 and IV jumps 15% (all else equal), the dealer may sell an additional 0.2 deltas to hedge their exposure to the addition of a positive 0.2 delta. The graphic is for illustrational purposes, only.”

Whether those price rises kick off a sustained reversal depends on what the fundamental situation is, then.

Presently, the largest index constituents are starting to succumb to worsening fundamentals and that will, ultimately, feed into the indexes which are pinned due to passive and hedging flows.

In other words, fundamentals will trump this talk of positioning (i.e., it is only in the short-term does this positioning we’ve talked about have greater implications).

Consideration: The returns distribution, based on implied volatility metrics alone, is skewed positive (though there are some large negative outliers pursuant to The Ambrus Group’s Kris Sidial recent explanation that despite negative sentiment, “nobody is truly scared” and “Fixed strike vols continue to underperform, along with the lack of concern in the VX term structure”).

Caution.

Graphic: Via SpotGamma, “Put vs Call gamma suggests stretched positioning.”

Technical: As of 6:30 AM ET, Monday’s regular session (9:30 AM – 4:00 PM ET), in the S&P 500, will likely open in the middle part of a balanced overnight inventory, inside of prior-range and -value, suggesting a limited potential for immediate directional opportunity.

In the best case, the S&P 500 trades higher; activity above the $4,118.75 regular trade low (RTH Low) puts in play the $4,158.25 overnight high (ONH). Initiative trade beyond the ONH could reach as high as the $4,247.00 untested point of control (VPOC) and $4,279.75 ONH, or higher.

In the worst case, the S&P 500 trades lower; activity below the $4,118.75 RTH Low puts in play the $4,101.25 overnight low (ONL). Initiative trade beyond the ONL could reach as low as the $4,055.75 low volume area (LVNode) and $3,978.50 low volume area (LVNode), 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: Terribly weak price action, last week, with the S&P 500, Nasdaq 100, and Russell 2000 all flirting with early 2022 lows.

The weaker of the bunch – the Invesco QQQ Trust Series 1 (NASDAQ: QQQ) – just broke a major VWAP anchored from the lows of March 2020. 

That indicator denotes the level at which the average buyer/seller is in.

In other words, it is the fairest price to pay for Nasdaq 100 exposure (since March 2020) and, instead of being construed as a so-called demand zone, the level ought to be looked at as overhead supply on tests, higher. Caution.

Graphic: Invesco QQQ Trust Series 1 (NASDAQ: QQQ) with anchored VWAPs.

Definitions

Overnight Rally Highs (Lows): Typically, there is a low historical probability associated with overnight rally-highs (lows) ending the upside (downside) discovery process.

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.

Volume-Weighted Average Prices (VWAPs): A metric highly regarded by chief investment officers, among other participants, for quality of trade. Additionally, liquidity algorithms are benchmarked and programmed to buy and sell around VWAPs.

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, 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.

Categories
Commentary

Daily Brief For March 23, 2022

Editor’s Note: Hey team! Thanks for all the support. I enjoy putting together these notes as it helps keep me aware of narratives that may impact my own trades.

I’ll be taking the rest of the week off (i.e., no notes till Monday most likely), focusing on other areas of the business like prep for the weeks and months to come.

Take care and trade safe,

Renato

What Happened

Overnight, equity index futures auctioned sideways to lower while commodities, bonds, and implied volatility metrics were bid.

This is in the context of a global bond market rout. Central banks intend to tighten policy in light of surging inflation; investors are selling bonds and rotating into areas that have “better upside.”

Ahead is data on new home sales (10:00 AM ET). The Federal Reserve’s (Fed) Loretta Mester speaks at 10:00 AM ET. Mary Daly follows at 11:45 AM ET.

Moreover, yesterday’s commentary carried a pessimistic tone. In hindsight, too pessimistic. The reality is that this is a market environment like no other. Certain metrics that were very reliable carry little-to-no value (predictive ability) right now. This is true for those who base much of their decision-making on “fundamental” and “technical” analyses, too.

To combat this, we zoom out and look for trades that offer asymmetric payouts. We’re careful to provide liquidity when others demand it en masse. Similarly, we are to give ourselves room for error; stops are widened and lot sizes are smaller.

Read on for today’s lighter-hearted take on what’s happening and frameworks to trade on.

Graphic updated 6:30 AM ET. Sentiment Neutral if expected /ES open is inside of 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. SHIFT data used for S&P 500 (INDEX: SPX) options activity. Note that options flow is sorted by the call premium spent; if more positive, then more was spent on call options. 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.

What To Expect

Fundamental: Bloomberg’s John Authers published a discussion on the performance of stocks, relative to bonds. Essentially, there have only been four previous two-week periods when stocks beat bonds by this much.

Graphic: Via Bloomberg. The 10-trading-day return of the SPDR S&P 500 ETF (NYSE: SPY) relative to the iShares 20 Plus Year Treasury Bond ETF (NASDAQ: TLT).

“All of the big positive moves were driven by classic stock market rebounds that proved to be durable. There was no particular move in bond yields. This is the first time a turn this dramatic has been pushed almost as much by falling bond prices as by rising stock prices.”

Graphic: Via Bloomberg. “The upper bound of the fed funds rate is still only 0.5%, but the two-year bond yield implies confidence that there are seven more hikes to come in that time.”

Authers explains that “equities are enjoying a false dawn as they’re recipients of the money coming out of bonds, and that we are about to be reacquainted with the bear markets in both bonds and stocks which come when rates [i.e., cost of money] have to rise to control inflation,” which impacts longer duration stocks (i.e., a stock whose value lies further in the future) most.

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

Adding, the impact of rising Treasury rates is magnified further when credit spreads (i.e., the difference in yield between bonds of similar maturities but different credit quality) also rise.

Graphic: Via Bloomberg. “But the speed with which corporate yields are rising again gives the impression of a market process that is coming around from an anaesthetic injected to help it survive the trauma of the credit crisis back in 2008.”

“The performance of stocks relative to bonds suggests we’re at the beginning of a big upswing; the absolute performance of bond yields in their own right suggests we need to bail out now before another crisis engulfs us,” Authers says.

Graphic: Via Goldman Sachs Group Inc (NYSE: GS). Taken from The Market Ear. “GS has lowered GDP a number of times over the past few weeks. Remember that during the fantastic bull from Q220 and 1 year onwards it was the flipside with GS way above consensus…”

Positioning: Dip buying serves investors well.

Graphic: Via Morgan Stanley (NYSE: MS). Taken from The Market Ear. “Buy the dip has worked well during periods of QE but has not historically worked during QT. Better to ‘buy the rally’ during QT (2018-2019), which was also the case during the 80s/90s.”

The near-vertical price rise in markets, over the last week, comes after a long period of weakness during which participants concentrated their activity in negative delta trades (which make money when markets trade lower, all else equal).

From a static delta perspective, now, there is both the covering of shorts and so-called macro buying (pointed to in the above section). 

From a dynamic delta perspective, there are the implications of volatility compression (e.g., Cboe Volatility Index [INDEX: VIX] and term structure dropping), the removal of put-heavy exposures via last week’s options expiration (OPEX), and the market’s trade higher.

Graphic: Via Deutsche Bank AG (NYSE: DB). Taken from The Market Ear. Volatility control is the concept of managing assets “through continual rebalancing between a risky asset holding – often, but not always, equity – and cash holdings,” via The Actuary.

Taken together (short covering, macro buying, volatility compression, OPEX, and so on), the aforementioned dynamics bolster markets. It is the dynamics of positioning (demand or supply of liquidity) that magnify (add to) the velocity of moves up (or down).

Graphic: Via Refinitiv. Taken from The Market Ear. “Poor liquidity (and short gamma) magnified moves on the way down. It seems poor liquidity works both ways seeing px action during the latest squeeze.”

Earlier this week, this newsletter pointed to the potential non-sustainability of the market’s rise. This was based on metrics that have provided tremendous predictive power, in the past. 

Participants’ commitment to positive delta exposure (i.e., buying calls and selling puts), is a feature of sustained reversals. Data through Tuesday did not show this at the index level. 

As discussed by SpotGamma, yesterday, in the S&P, participants bought puts and sold calls (i.e., a negative delta trade).

This was in the context of aggressive call buying and put selling in heavily weighted index constituents like Tesla Inc (NASDAQ: TSLA).

Graphic: SpotGamma’s Hedging Impact of Real-Time Options (HIRO) indicator for TSLA.

As stated in yesterday’s commentary, markets remain vulnerable to sharp drops. In the case of further volatility suppression (e.g., customer call and put selling), counterparties will tend toward supporting markets and laying the foundation for later-dated rallies.

However, if markets trade down and volatility rises, accordingly, as participants seek protection, the potential exists for magnified moves on the way down.

Straight up could well precede straight down. A bottom (as some strategists are calling for) may take time to hammer out.

Graphic: Via Vix Central.

Technical: As of 6:30 AM ET, Wednesday’s regular session (9:30 AM – 4:00 PM ET), in the S&P 500, will likely open in the lower part of a negatively skewed overnight inventory, inside of prior-range and -value, suggesting a limited potential for immediate directional opportunity.

In the best case, the S&P 500 trades higher; activity above the $4,489.75 low volume area (LVNode) puts in play the $4,515.25 LVNode. Initiative trade beyond the $4,515.25 LVNode could reach as high as the $4,548.75 LVNode and $4,565.00 untested point of control (VPOC), or higher.

In the worst case, the S&P 500 trades lower; activity below the $4,489.75 LVNode puts in play the $4,464.75 LVNode. Initiative trade beyond the $4,464.75 LVNode could reach as low as the $4,438.25 high volume area (HVNode) and $4,409.00 VPOC, or lower.

Considerations: Push-and-pull, as well as 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.

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.

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, 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.

Categories
Commentary

Daily Brief For March 18, 2022

Editor’s Note: The Daily Brief is a free glimpse into the prevailing fundamental and technical drivers of U.S. equity market products. Join the 200+ that read this report daily, below!

What Happened

Ahead of Friday’s triple witching derivatives expiry, the equity index and most commodity futures auctioned sideways to lower.

Ahead is data on existing home sales and leading economic indicators (10:00 AM ET), as well as Fed-speak by Tom Barkin (1:20 PM ET).

Graphic updated 6:45 AM ET. Sentiment Neutral if expected /ES open is inside of 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. SHIFT data used for S&P 500 (INDEX: SPX) options activity. Note that options flow is sorted by the call premium spent; if more positive, then more was spent on call options. 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.

What To Expect

Fundamental: Today’s focus is on market positioning. Therefore, the fundamental section is (more) lighthearted.

Equity markets rose in the context of a sharp multi-month drawdown. This is, in part, masking the concern over Russia’s economic situation, a slowing in the flow of U.S. credit, supply and demand imbalances, the impact of COVID-19, and other things.

Graphic: Via Bloomberg.

Further, in spite of the Federal Reserve’s (Fed) comments on the strength of the economy and its likely resilience in the face of tighter policies, Goldman Sachs Group Inc (NYSE: GS) said the odds of a recession were “broadly in line with the 20-35% odds currently implied by models based on the slope of the yield curve.”

Graphic: Via Bloomberg. “Whenever the yield curve inverts, it tends to function as an early warning for a recession, suggesting that in the medium-term rates will have to fall.”

The forecast “implies below potential growth in 2022 Q1 and 2022 Q2 and potential growth for 2022 overall.”

With the Fed now eyeing about six more rate hikes in 2022 – putting the policy rate at ~2.8% before 2024 – commentators were quick to point out the “central bank’s patchy record on not tipping the economy into recession.”

Graphic: Via Bloomberg.

Alhambra Investments’ Jeffrey Snider, however, made an interesting point.

“To believe the Fed is behind all this or can do something useful about it, like the rate hikes you would have to be” born yesterday, he said.

“On the contrary, bond curve recession probabilities are more attuned to why production levels have struggled despite prices, having more to do with global conditions and the lack of actual volume expansion. Consumer, producer, and commodity prices have obscured, to some substantial extent, the true underlying economic situation.”

Moreover, Goldman forecasts the S&P 500 (INDEX: SPX) to end 2022 near $4,700.00 (down from $4,000.00), ~6% higher than today’s prices.

“The S&P 500 has dropped about 24% from peak-to-trough around past recessions (based on the median),” Goldman said in one newsletter. 

“But when the U.S. economy avoids a sustained contraction after a 10% market correction, the index has returned 15% over the next 12 months.”

Positioning: Friday marks the quarterly triple witching options expiry and index rebalancing.

Through this event, ~$3.5 trillion in options are set to expire, according to Goldman, with “more near-the-money options are maturing than at any time since 2019.”

Graphic: Via Goldman Sachs Group Inc.

In terms of the index rebalance, according to Howard Silverblatt of S&P Global Inc’s (NYSE: SPGI) Dow Jones Indices, “the rebalance in the index alone could spur $33 billion of stock trades.”

This newsletter has talked about the implications of derivatives and their expirations, too, ad nauseam.

Mainly, stock moves and options activity is more correlated and this is the result of participants’ increased exposure to derivatives products (particularly those with less time to expiration).

The demand for this derivatives exposure is transmitted to underlying stocks, via the risk management of counterparties; with option volumes heightened, related hedging flows may represent an increased share of volume in underlying stocks.

As I talked about this in conversations with the Ambrus Group’s Kris Sidial and Kai Volatility’s Cem Karsan, among others, the counterparties’ response to this options trading is impactful (and often predictable).

“Moreover, heading into Wednesday’s FOMC, we saw the market well-hedged,” SpotGamma, an options modeling and analysis service explained. “Participants’ demand for protection is concentrated in options with little time to expiry (given the monthly options expiration and roll-off a significant size of S&P delta).”

“Adding, the compression of volatility [post-FOMC and into OPEX], coupled with trade higher, solicits less counterparty hedging of put protection … [and] less positive delta = less selling to hedge = less pressure.”

Graphic: Implied volatility term structure shifts inward. This solicits positive hedging (vanna) flows as counterparty exposure to positive delta declines. In other words, short stock and futures hedges (against options) are bought back.

So, at a high level, this week’s events (a ”rally [that’s] been fueled by dealers covering short positions to balance exposures while demand for stock hedges is elevated”) have bolstered positive price action. 

Graphic: Via Bloomberg.

What’s interesting, also, is the S&P 500’s response to the $4,400.00, level. At this level is a concentration of call exposure.

Graphic: Via Goldman Sachs Group Inc. SPX resistance at $4,400.00.

As noted before, the dominant customer positioning, at least at the index level, is short call and long put (i.e., finance downside insurance by selling upside to hedge equity exposure).

The counterparty, in such a case, is short downside and long upside protection; when volatility contracts and underlying prices move higher, the put side, as noted above, solicits less active hedging whilst the call side solicits more active hedging.

In other words, the counterparty has less exposure to negative gamma (from puts) and more exposure to positive gamma (from calls), meaning gains are multiplied to the upside).

Graphic: Via SqueezeMetrics. Market gamma turns positive.

Knowing that “the range of spot prices across which option deltas shift from near-zero to near-100% becomes very narrow as options approach maturity (and at maturity, options on one side of the settlement value have zero delta and the other side have 100% delta),” trading into that concentration of calls (which have increased sensitivity to direction or gamma) quickly adds to counterparty positive delta exposure.

This must be offset with counterparty negative delta in the underlying (selling futures and stock to hedge). If there are enough “contracts sitting close to the spot price this time around,” that leads to more frenetic hedging as participants “actively trade around those positions,” and pressure upside, even.

Graphic: Via Nomura Holdings Inc (NYSE: NMR). Taken from ZeroHedge. “SPX / SPY currently “pinning” btwn 4400 strike ($4.1B $Gamma), 4350 ($2.5B), 4300 ($2.4B); currently see ~43% of the $Gamma dropping-off for Friday’s expiration; currently at “Zero Gamma” level, “Max Short Gamma” at 4125 and -$17B per 1% move.”

Ultimately, this post-FOMC price rise may put the market in an underhedged position. In such a case, as talked about yesterday, new demand for protection would add fuel to weakness (later). 

“I’ve never seen an environment where you’ve had so many potential overhangs in the market that can not be controlled,” said David Wagner, a portfolio manager at Aptus Capital Advisors. “We’ll see if people can see to redeploy their puts.”

SpotGamma’s Delta Tilt indicator. Current readings rival that of Dec ’18 and Mar ’20. These expirations can be correlated to sharp rallies in the S&P (red line).

Technical: As of 6:45 AM ET, Friday’s regular session (9:30 AM – 4:00 PM ET), in the S&P 500, will likely open in the middle part of a negatively skewed overnight inventory, inside of prior-range and -value, suggesting a limited potential for immediate directional opportunity.

In the best case, the S&P 500 trades higher; activity above the $4,395.25 high volume area (HVNode) puts in play the $4,418.75 overnight high (ONH). Initiative trade beyond the ONH could reach as high as the $4,438.25 HVNode and $4,464.75 low volume area (LVNode), or higher.

In the worst case, the S&P 500 trades lower; activity below the $4,395.25 HVNode puts in play the $4,355.00 untested point of control (VPOC). Initiative trade beyond the VPOC could reach as low as the $4,314.75 and $4,285.25 HVNodes, or lower.

Considerations: Push-and-pull, as well as 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.

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.

Definitions

Overnight Rally Highs (Lows): Typically, there is a low historical probability associated with overnight rally-highs (lows) ending the upside (downside) discovery process.

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 is also a Benzinga finance and technology reporter interviewing the likes of Shark Tank’s Kevin O’Leary, JC2 Ventures’ John Chambers, FTX’s Sam Bankman-Fried, and ARK Invest’s Catherine Wood, as well as a SpotGamma contributor developing insights around impactful options market dynamics.

Disclaimer

Physik Invest does not carry the right to provide advice.

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.

Categories
Commentary

Daily Brief For March 15, 2022

Editor’s Note: The Daily Brief is a free glimpse into the prevailing fundamental and technical drivers of U.S. equity market products. Join the 200+ that read this report daily, below!

What Happened

Overnight, equity index futures explored lower prices alongside most commodities. Bonds and implied volatility metrics were bid, also.

The narrative is that this is follow-on selling as participants look to price in the implications of COVID-19 lockdowns in China, as well as the Russia-Ukraine conflict. Arguably, there is some pre-Federal Open Market Committee (FOMC) positioning going on, too.

Ahead is data on the Producer Price Index and Empire State Manufacturing (8:30 AM ET).

Graphic updated 6:15 AM ET. Sentiment Neutral if expected /ES open is inside of 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. SHIFT data used for S&P 500 (INDEX: SPX) options activity. Note that options flow is sorted by the call premium spent; if more positive, then more was spent on call options. 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.

What To Expect

Fundamental: Keeping it short, today. Please check out Monday’s commentary, if you haven’t!

Weak start to 2022 as participants look to price slower growth and inflation, tighter monetary policy, geopolitical tensions, a resurgence in COVID-19, potential Russian defaults, and beyond.

Graphic: Via S&P Global Inc (NYSE: SPGI). 

Bolstering inflation pressures are supply-demand challenges. For instance, geopolitical tensions are stifling vehicle production here in the U.S.

Graphic: Via S&P Global Inc (NYSE: SPGI). 

Since Russia’s invasion of Ukraine, gas in the U.S. climbed about $0.80/gallon, also, prompting talk of gas tax holidays.

Graphic: Via Reuters.

Pursuant to these remarks, Goldman Sachs Group Inc (NYSE: GS) economists suggest the probability of recession in the next year is between 20-35% while Morgan Stanley (NYSE: MS) strategists see equity valuations overshooting to the downside with out of control inflation.

Graphic: Via Goldman Sachs Group Inc.

In opposition, JPMorgan Chase & Co’s (NYSE: JPM) Marko Kolanovic suggests there is too much negativity priced in and that investors should add equity risk

“We believe that the past month’s correction has induced too much negativity in markets, e.g., reflected by our market-implied recession probabilities, on the fear that growth will be severely affected by the war. We stay with a pro-risk stance as we do not believe that we will see a recession or that we have entered a sustained bear market.”

Graphic: Via Bloomberg. “A Moody’s Analytics computer model suggests that the U.S. as a whole would be able to avoid a recession, even if military hostilities are prolonged.”

Positioning: Per Goldman Sachs Group Inc’s derivatives team, “puts are more overvalued than any time over the past five years.”

Graphic: Via SpotGamma. “Netting call & put delta, you can see we’re near extremes in terms of put:call positions. Often large put positions are removed by expirations, which seems to coincide with market lows. Many of these are quarterly expirations which coincide w/FOMC meetings – such as next week.”

Further, it is expected that the compression of volatility (via passage of FOMC), as well as the removal of customer puts and (accordingly) counterparty negative gamma exposure (OPEX) may serve to alleviate some of this pressure.

Graphic: Via Goldman Sachs Group Inc (NYSE: GS). Taken from The Market Ear. “18-Mar has more expiring near-the-money SPX open interest than any expiration since 2019.”

In taking the other side of this demand for protection, counterparties carry exposure to positive delta and negative gamma (losses amplified to the downside). In hedging their own exposure, counterparties will sell underlying(s), and this is where the aforementioned pressure arises.

Graphic: SqueezeMetrics details the implications of customer activity in the options market, on the underlying’s order book. For instance, in selling a put, customers add liquidity and stabilize the market. How? The market maker long the put will buy (sell) the underlying to neutralize directional risk as price falls (rises).

Given present supply and demand conditions (customer hedging in months prior), the incremental pressure counterparties add with each leg lower is less, if you will. 

Here’s a good explanation:

“When implied volatility is high, that same 1% move lower is much more ‘expected’ so there generally won’t be the same upward pressure on volatility and in fact it might decline,” said Christopher Jacobson, a strategist at Susquehanna Financial Group LLP.

“Along the same lines, investors at that point have had more opportunity and time to hedge, so those same market moves may not lead to as much hedging activity.”

Pictured: SqueezeMetrics highlights implications of volatility, direction, and moneyness.

Adding to that last remark, as Amy Wu Silverman of Royal Bank of Canada’s (NYSE: RY) capital markets group puts it well: “You’re also seeing people selling that volatility and doing some overwriting. That can probably dampen volatility.”

Graphic: SpotGamma’s Hedging Impact of Real-Time Options (HIRO) indicator for QQQ shows strong put selling 3/14/2022. Divergences often precede reversals in the underlying.

There is the potential, according to SpotGamma, for some “path dependency,” however, as “the expiration and/or covering of a large swath of these put hedges may place the market back into an ‘underhedged’ position.” In such a case, new demand would add fuel to weakness.

Technical: As of 6:15 AM ET, Tuesday’s regular session (9:30 AM – 4:00 PM ET), in the S&P 500, will likely open in the middle part of a negatively skewed overnight inventory, inside of prior-range and -value, suggesting a limited potential for immediate directional opportunity.

Gap Scenarios: Gaps ought to fill quickly. Should they not, that’s a signal of strength; do not fade. Leaving value behind on a gap-fill or failing to fill a gap (i.e., remaining outside of the prior session’s range) is a go-with indicator.

Auctioning and spending at least 1-hour of trade back in the prior range suggests a lack of conviction; in such a case, do not follow the direction of the most recent initiative activity.

In the best case, the S&P 500 trades higher; activity above the $4,129.50 overnight low (ONL) puts in play the $4,177.25 high volume area (HVNode). Initiative trade beyond the $4,177.25 HVNode could reach as high as the $4,227.75 HVNode and $4,249.25 LVNode, or higher.

In the worst case, the S&P 500 trades lower; activity below the $4,129.50 ONL puts in play the $4,101.25 ONL. Initiative trade beyond the ONL could reach as low as the $4,069.25 HVNode and $4,055.75 LVNode, or lower.

Considerations: Push-and-pull, as well as 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.

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.

Definitions

Overnight Rally Highs (Lows): Typically, there is a low historical probability associated with overnight rally-highs (lows) ending the upside (downside) discovery process.

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.

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 is also a Benzinga finance and technology reporter interviewing the likes of Shark Tank’s Kevin O’Leary, JC2 Ventures’ John Chambers, FTX’s Sam Bankman-Fried, and ARK Invest’s Catherine Wood, as well as a SpotGamma contributor developing insights around impactful options market dynamics.

Disclaimer

Physik Invest does not carry the right to provide advice.

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.

Categories
Commentary

Daily Brief For March 11, 2022

Editor’s Note: The Daily Brief is a free glimpse into the prevailing fundamental and technical drivers of U.S. equity market products. Join the 200+ that read this report daily, below!

What Happened

On reports that there was progress in talks between Russia and Ukraine, stock index futures advanced putting the S&P 500 back inside a large consolidation area.

Thus far, trade has been volatile and responsive to key visual levels suggesting that the larger other time frame (non-technical) participants are waiting for more information to initiate trades.

Ahead is data on the University of Michigan Sentiment (10:00 AM ET) and inflation expectations (10:00 AM ET).

Graphic updated 6:45 AM ET. Sentiment Risk-On if expected /ES open is above 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. SHIFT data used for S&P 500 (INDEX: SPX) options activity. Note that options flow is sorted by the call premium spent; if more positive, then more was spent on call options. 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.

What To Expect

Fundamental: Yesterday’s letter covered a lot of ground. Check it out if you haven’t already.

Volatility is heightened and the narratives we may attribute that to are concerned with the intent to tighten monetary policy, slower economic growth, and geopolitics.

Graphic: Via Goldman Sachs Group Inc (NYSE: GS). Taken from The Market Ear. “We are downgrading our US GDP forecast to reflect higher oil prices and other drags on growth related to the war in Ukraine.”

In comparison, though, U.S. equity product volatility is less than that in Europe and this points to the “risk premium for investing in Europe’s markets that are teeming with cyclical stocks acutely vulnerable to growth and inflation risks,” among other things.

Adding to the turbulence was the European Central Bank’s pivot toward hawkishness; the institution will accelerate the wind-down of its monetary stimulus. Pursuant to this decision, Euro-area equity funds had their largest weekly outflows on record.

Graphic: Via Bloomberg. 

U.S. policymakers are expected to ramp their tightening efforts, next week, also, as inflation expectations are surging.

Graphic: Via Bloomberg. “[T]he central bank is widely expected to announce a 25-basis point increase Wednesday, along with fresh projections for the economy and path of interest rates.”

Per CME Group Inc’s (NASDAQ: CME) FedWatch Tool, participants are pricing a near 100% chance of a hike in the target rate.

Graphic: Via CME Group Inc (NASDAQ: CME). Participants price in an increased probability of a shift in the target rate. Click here to access the FedWatch Tool.

In the face of all the bearish narratives, however, many products – at the single-stock level – have been de-rating now for nearly a year. 

Ahead of bullish seasonality and rebalancing flow (from fixed income into equities), JPMorgan Chase & Co (NYSE: JPM) strategists suggest that “we could be through [the] worst of it.” 

“When either All Strats or Equity L/S net leverage fell by at least 1.5z or more, the SPX generally rallied over the next 1wk and 4wks,” a bulletin published by The Market Ear read. 

Positioning: Based on a comparison of present options positioning and buying metrics, the returns distribution is skewed positive, albeit less so than before. 

Graphic: Via Physik Invest. Data via SqueezeMetrics.

Adding, over the past weeks, we talked about the SPX and VIX down dynamic. This in part has to do with the supply and demand of protection, at the index level. Hyperlinked are our past conversations.

Graphic: Via Bloomberg. S&P 500 (INDEX: SPX) down, CBOE Volatility Index (INDEX: VIX) down.

“We’re back to another point of people being well hedged and well-positioned,” Amy Wu Silverman of Royal Bank of Canada’s (NYSE: RY) capital markets group, said. 

“You’re also seeing people selling that volatility and doing some overwriting. That can probably dampen volatility.”

Graphic: SpotGamma’s Hedging Impact of Real-Time Options (HIRO) indicator for the SPDR S&P 500 ETF Trust (NYSE: SPY). Into the S&P 500’s March 8, 2022 decline, participants sold volatility on both sides of the options chain.

“When implied volatility is high, that same 1% move lower is much more ‘expected’ so there generally won’t be the same upward pressure on volatility and in fact it might decline,” said Christopher Jacobson, a strategist at Susquehanna Financial Group LLP.

“Along the same lines, investors at that point have had more opportunity and time to hedge, so those same market moves may not lead to as much hedging activity.”

Graphic: Via SpotGamma. “Netting call & put delta, you can see we’re near extremes in terms of put:call positions. Often large put positions are removed by expirations, which seems to coincide with market lows. Many of these are quarterly expirations which coincide w/FOMC meetings – such as next week.”

Taking this together, in accordance with metrics referred to earlier, “we could be closer to the end than the beginning of the discretionary de-risking,” as JPMorgan analysts best explain.

Further, the compression of volatility (via passage of FOMC) or removal of counterparty negative exposure (via OPEX) may serve to alleviate some of this pressure

Until then, participants can expect the options landscape to add to market volatility.

Technical: As of 6:30 AM ET, Friday’s regular session (9:30 AM – 4:00 PM ET), in the S&P 500, will likely open in the upper part of a positively skewed overnight inventory, outside of prior-range and -value, suggesting a potential for immediate directional opportunity.

Balance-Break + Gap Scenarios: A change in the market (i.e., the transition from two-time frame trade, or balance, to one-time frame trade, or trend) is occurring.

Monitor for acceptance (i.e., more than 1-hour of trade) outside of the balance area. 

Leaving value behind on a gap-fill or failing to fill a gap (i.e., remaining outside of the prior session’s range) is a go-with indicator. 

Rejection (i.e., return inside of balance) portends a move to the opposite end of the balance.

In the best case, the S&P 500 trades higher; activity above the $4,314.75 high volume area (HVNode) puts in play the $4,346.75 HVNode. Initiative trade beyond the $4,346.75 HVNode could reach as high as the $4,375.00 untested point of control (VPOC) and $4,395.25 HVNode, or higher.

In the worst case, the S&P 500 trades lower; activity below the $4,314.75 HVNode puts in play the $4,285.75 HVNode. Initiative trade beyond the $4,285.75 HVNode could reach as low as the $4,249.25 low volume area (LVNode) and $4,227.75 HVNode, or lower.

Considerations: Push-and-pull, as well as 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.

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.

What People Are Saying

Definitions

Overnight Rally Highs (Lows): Typically, there is a low historical probability associated with overnight rally-highs (lows) ending the upside (downside) discovery process.

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 is also a Benzinga finance and technology reporter interviewing the likes of Shark Tank’s Kevin O’Leary, JC2 Ventures’ John Chambers, FTX’s Sam Bankman-Fried, and ARK Invest’s Catherine Wood, as well as a SpotGamma contributor developing insights around impactful options market dynamics.

Disclaimer

Physik Invest does not carry the right to provide advice.

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.

Categories
Commentary

Daily Brief For February 24, 2022

Editor’s Note: The Daily Brief is a free glimpse into the prevailing fundamental and technical drivers of U.S. equity market products. Join the 200+ that read this report daily, below!

What Happened

Overnight, equity index futures added to losses after news that Russia invaded Ukraine

The MOEX Russia Index fell nearly 50% while, at home in the U.S., equity index futures were off about 3%. Bonds rose with commodities which were led by crude oil (up ~9%). 

The CBOE Volatility Index (INDEX: VIX), a measure of implied volatility or participants’ forecast of likely movement in prices, printed 37.79 a ~7.00 jump from Wednesday.

This high-level context suggests to us the need for patience. Ranges will be wide. Positioning will compound headline-driven moves. Technical analyses will fail. Caution.

Ahead is data on jobless claims, gross domestic product, gross domestic income (8:30 AM ET), as well as new home sales (10:00 AM ET).

Graphic updated 6:45 AM ET. 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. SHIFT data used for S&P 500 (INDEX: SPX) options activity. Note that options flow is sorted by the call premium spent; if more positive, then more was spent on call options. 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.

What To Expect

Fundamental: “The ‘bad news = good news’ narrative for markets doesn’t work if the Fed is tightening amidst a slowdown and a military escalation risk. In this case, bad news = bad news.”

Pursuant to this remark by Alfonso Peccatiello, Russian equities fell the most on record (nearly 50%) after President Vladimir Putin ordered the demilitarization of Ukraine. 

Graphic: Via Bloomberg.

According to Bloomberg, this crisis comes “after the U.S. and its allies crossed Russia’s ‘red lines’ by expanding the NATO alliance.”

In terms of the economic implications of Russia sanctions, it is “Cyprus and eastern European countries [that] are the most reliant on Russian imports in the EU.” 

Ukraine’s crisis also throws a wrench at monetary tightening initiatives, abroad; “the European Central Bank will put even greater emphasis on its flexibility and options as it exits stimulus measures and shifts toward raising rates,” Governing Council member Francois Villeroy de Galhau said.

Graphic: Via Bloomberg.

Positioning: Implied volatility expands as heightened demand for protection is priced in.

Graphic: VIX term structure shifts higher, especially at the front-end. This denotes the heightened potential for instability.

This comes after, according to views expressed by The Ambrus Group’s Kris Sidial, “we saw larger inflow[s] into equity funds, outflow[s] out of money markets, larger buying in the ATSs, with no real put buying.”

Graphic: Via EPFR, Barclays, and Bloomberg. Taken from The Market Ear.

In other words, measures of implied volatility were not performing; participants opportunistically buying the dip witnessed an SPX down, VIX down environment in which hedges were not being marked up accordingly.

Graphic: Per Tier1Alpha, “In the past, when the $SPX/ $VIX correlation goes back to negative, there have been some pretty memorable volatility events. Worth keeping in mind.”

The implications of this action are staggering. 

As stated yesterday, as most participants, at least at the index level, own protection, the counterparties to this trade are short protection. 

These counterparties, therefore, have positive exposure to delta (i.e., as index falls [rises], position loses [makes] money) and negative exposure to gamma, or delta (directional) sensitivity to underlying price changes (i.e., as the index moves against short option exposure, losses are multiplied). 

With measures of implied volatility expanding, as is the case when there is heightened demand for downside put protection, protection is bid and the dealer’s exposure to positive delta rises, which solicits more selling in the underlying (addition of short-delta hedges).

Graphic: SqueezeMetrics details the implications of customer activity in the options market, on the underlying’s order book. For instance, in selling a put, customers add liquidity and stabilize the market. How? The market maker long the put will buy (sell) the underlying to neutralize directional risk as price falls (rises).

To monitor for capitulation, we may look for when the volatility expectations of implied volatility metrics rise to extremes. Learn more about VVIX, here.

Graphic: Charting the CBOE Volatility-Of-Volatility Index (INDEX: VVIX). In that reach for highly “convex” options, counterparties react in a manner that exacerbates underlying price movement.

We may also measure for one-sidedness in sentiment by looking to naive metrics like the put/call ratio. Learn more about PCALL, here.

Graphic: Using the put/call ratio to gauge sentiment.

Technical: As of 6:30 AM ET, Thursday’s regular session (9:30 AM – 4:00 PM ET), in the S&P 500, will likely open in the lower part of a negatively skewed overnight inventory, outside of prior-range and -value, suggesting a potential for immediate directional opportunity.

Gap Scenarios: Gaps ought to fill quickly. Should they not, that’s a signal of strength; do not fade. Leaving value behind on a gap-fill or failing to fill a gap (i.e., remaining outside of the prior session’s range) is a go-with indicator.

Auctioning and spending at least 1-hour of trade back in the prior range suggests a lack of conviction; in such a case, do not follow the direction of the most recent initiative activity.

In the best case, the S&P 500 trades higher; activity above the $4,122.25 high volume area (HVNode) puts in play the $4,177.25 HVNode. Initiative trade beyond the HVNodes could reach as high as the $4,212.25 regular trade low (RTH Low) and $4,249.25 low volume area (LVNode), or higher.

In the worst case, the S&P 500 trades lower; activity below the $4,122.25 HVNode puts in play the $4,055.75 LVNode. Initiative trade beyond the latter could reach as low as the $3,978.50 LVNode and $3,943.25 HVNode, or lower.

Considerations: If you are not well-versed in navigating trade at heightened levels of volatility, it is best to sit on your hands (SOH) or trade with a smaller size. Often, on large gaps, indexes may move sideways (and not up or down). This can be frustrating. 

Also, in high volatility, negative-gamma environments, headlines matter, and technical analyses often fail. Do not think “this time is as others” and let this event lead to your demise. Caution.

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.

What People Are Saying

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.

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 is also a Benzinga finance and technology reporter interviewing the likes of Shark Tank’s Kevin O’Leary, JC2 Ventures’ John Chambers, FTX’s Sam Bankman-Fried, and ARK Invest’s Catherine Wood, as well as a SpotGamma contributor developing insights around impactful options market dynamics.

Disclaimer

Physik Invest does not carry the right to provide advice.

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.

Categories
Commentary

Daily Brief For February 14, 2022

Editor’s Note: The Daily Brief is a free glimpse into the prevailing fundamental and technical drivers of U.S. equity market products. Join the 200+ that read this report daily, below!

What Happened

Overnight, equity index futures auctioned sideways to lower, extending the sell-off that began with the release of Consumer Price Index (CPI) data.

The Federal Reserve will convene, today, at 11:30 AM ET for an unscheduled meeting of the Board of Governors to discuss “the advance and discount rates to be charged by the Federal Reserve banks.”

Scheduled is an interview with St. Louis Fed President James Bullard (8:30 AM ET).

Graphic updated 6:50 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. SHIFT data used for S&P 500 (INDEX: SPX) options activity. Note that options flow is sorted by the call premium spent; if more positive, then more was spent on call options. 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.

What To Expect

Fundamental: Markets are catching up to divergences in breadth, trading down in the face of narratives around the Federal Reserve’s (Fed) response to heightened inflation, a challenging economic growth outlook, and geopolitical tensions.

Graphic: NYSE A-D Line versus the Dow Jones Industrial Average. Taken from Tom McClellan.

Pursuant to these narratives, Goldman Sachs Group Inc (NYSE: GS) lowered its targets for the S&P 500 from $5,100.00 to $4,900.00. 

“The macro backdrop this year is considerably more challenging than in 2021. However, we continue to expect that equity prices will rise alongside earnings and reach a new all-time high in 2022,” strategists said on earnings growth in light of the impact of higher rates on valuations.

“During the last 50 years, a ‘goldilocks’ environment of accelerating GDP  growth and stable real yields has typically been associated with a 12-month S&P 500 return of +16%. However, when growth is decelerating and real yields are rising, 12-month S&P 500 returns have averaged +8%.”

Graphic: Via Goldman Sachs Group Inc (NYSE: GS). Taken from The Market Ear

At the same time, participants are withdrawing their cash and assets held in money market funds in size.

Graphic: Via Bank of America Corporation (NYSE: BAC).

Based on flows into equities, participants appear to be opportunistically buying the dip.

Graphic: Via EPFR. Retrieved from The Market Ear.

Looking back, when the yield curve – e.g., spread between 10- and 2-year – is between 75 and 25 basis points, stocks actually perform well. 

According to The Market Ear, “[S]imilar periods of time have typically coincided with the middle of prior cycles when economic expansion was broad-based. Worth highlighting the mid-90s, mid-00s, and late-10s.”

“Both short and long-term SPX performance following similar instances were well above typical return profiles. Average 6M performance is over 9% and average 12M performance is over 17%. Almost more notably, SPX performance was positive 90%+ of the time.”

Graphic: Via Jefferies Financial Group Inc (NYSE: JEF). Retrieved from The Market Ear.

To end this section, we point to the so-called unscheduled Fed meeting, today, and the potential for surprise rate increases, despite some policymakers, like Kansas City Fed President Esther George, attempting to cool expectations.

The historical reaction, months out, is not what participants expect would happen by default.

Graphic: Via SentimenTrader.

Positioning: As stated, Friday, Thursday’s post-CPI trade disrupted the balance of trade.

Lower prices and demand for protection, in the face of lower levels of “on-screen liquidity,” solicited dealer selling to hedge increased exposure to the positive delta from demanded short-dated, highly convex options.

Graphic: SpotGamma’s Hedging Impact of Real-Time Options (HIRO) indicator; “customers bought put options (a negative delta trade) leaving dealers short (a positive delta trade).” 

Lower prices and higher volatility compound macro flows, exacerbating weakness.

To note, much of the demand for protection is concentrated in shorter-dated options that are more sensitive to changes in implied volatility and direction. The demand is well visualized by the VIX term structure which shifted markedly at the front-end, Friday.

Graphic: VIX term structure shifts higher (dramatically at the front-end).

Going forward, there is a large monthly options expiration (OPEX) this week. OPEX is a sort-of reset; options roll-off, as do the counterparties’ hedges.

According to data compiled and analyzed by Pat Hennessy a while back, “OPEX week returns peaked in 2016 and have trended lower since.”

Graphic: @pat_hennessy breaks down returns for the S&P 500, categorized by the week relative to OPEX. 

Post-OPEX, though, according to SpotGamma, “In an environment characterized by negative gamma (wherein an options delta falls with stock price rises and rises when stock prices fall), options expiries ought to make gamma less negative.”

“Therefore, a reset that may make gamma exposures less negative, there will be a removal of [counterparties’] linear short (-delta) hedges which may further bolster attempts higher.”

So, the dip lower and demand for protection could serve to prime the market for upside (when volatility starts to compress again and counterparties unwind hedges to put-heavy exposures). 

Commitment to higher prices would likely coincide with increased interest in options at higher strike prices. We have yet to see this occur.

Technical: As of 6:30 AM ET, Monday’s regular session (9:30 AM – 4:00 PM ET), in the S&P 500, will likely open in the lower part of a negatively skewed overnight inventory, outside of prior-range and -value, suggesting a potential for immediate directional opportunity.

Balance-Break + Gap Scenarios: A change in the market (i.e., the transition from two-time frame trade, or balance, to one-time frame trade, or trend) occurred.

Acceptance (i.e., more than 1-hour of trade) outside of the balance area has been established.

Leaving value behind on a gap-fill or failing to fill a gap (i.e., remaining outside of the prior session’s range) is a go-with indicator (i.e., nothing has changed since Friday).

Rejection (i.e., return inside of balance) portends a move to the opposite end of the balance.

In the best case, the S&P 500 trades higher; activity above the $4,365.00 point of control (POC) puts in play the $4,393.75 high volume area (HVNode). Initiative trade beyond the HVNode could reach as high as the $4,438.00 key response area and $4,499.00 POC, or higher.

In the worst case, the S&P 500 trades lower; activity below the $4,365.00 POC puts in play the $4,332.25 HVNode. Initiative trade beyond the HVNode could reach as low as the $4,266.25 Weak Low and $4,212.50 regular trade low (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.

What People Are Saying

Definitions

Overnight Rally Highs (Lows): Typically, there is a low historical probability associated with overnight rally-highs (lows) ending the upside (downside) discovery process.

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.

Gamma: Gamma is the sensitivity of an option to changes in the underlying price. Dealers that take the other side of options trades hedge their exposure to risk by buying and selling the underlying. When dealers are short-gamma, they hedge by buying into strength and selling into weakness. When dealers are long-gamma, they hedge by selling into strength and buying into weakness. The former exacerbates volatility. The latter calms volatility.

Vanna: The rate at which the delta of an option changes with respect to volatility.

Charm: The rate at which the delta of an option changes with respect to time.

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.

Options Expiration (OPEX): Traditionally, option expiries mark an end to pinning (i.e, the theory that market makers and institutions short options move stocks to the point where the greatest dollar value of contracts will expire) and the reduction dealer gamma exposure.

Volume-Weighted Average Prices (VWAPs): A metric highly regarded by chief investment officers, among other participants, for quality of trade. Additionally, liquidity algorithms are benchmarked and programmed to buy and sell around VWAPs.

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 is also a Benzinga finance and technology reporter interviewing the likes of Shark Tank’s Kevin O’Leary, JC2 Ventures’ John Chambers, FTX’s Sam Bankman-Fried, and ARK Invest’s Catherine Wood, as well as a SpotGamma contributor developing insights around impactful options market dynamics.

Disclaimer

Physik Invest does not carry the right to provide advice.

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.

Categories
Commentary

Daily Brief For January 27, 2022

Editor’s Note: Our newsletter service provider is not working, today. Our apologies if you were not able to receive the note via email, as usual.

What Happened

Overnight, equity index futures explored lower before later recovering the prior day’s weak close after hawkish statements from the Federal Reserve (Fed). 

This is as some metrics continue to show buying support and any compression in volatility may serve to bolster a move higher.

Ahead is data on jobless claims, gross domestic product, durable goods orders, and core capital equipment orders (8:30 AM ET), as well as pending home sales (10:00 AM ET).

Graphic updated 6:00 AM ET. Sentiment Neutral if expected /ES open is inside of 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. SHIFT data used for S&P 500 (INDEX: SPX) options activity. Note that options flow is sorted by the call premium spent; if more positive, then more was spent on call options. 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.

What To Expect

Fundamental: Comments shared by the Federal Open Market Committee (FOMC) revealed asset purchases would stop in March.

After, the Fed is likely to hike the fed funds rate, but this is in the face of an economy that’s stronger than at the start of the last hiking cycle.

Graphic: Per Topdown Charts, “the Fed has placed itself behind the curve, and needs to catch up.”

Still, despite expectations being met, the hawkish tone was enough to tip the equity market

Graphic: Per Bloomberg, “the message Powell gave in his press conference was clear and loud enough to drive a massive reversal.”

This wasn’t unexpected. 

On average, under Chair Jerome Powell, the market tends to give up its intraday gains after an FOMC announcement.

Graphic: “[S]tock markets don’t like listening to Jay Powell.”

With the flatter yield curve (spread of 10-year over two-year Treasury yields), per Bloomberg, this implies that “rates will need to rise in the short term but won’t have to stay high.”

“In other words, the bond market still thinks that the Fed will beat inflation without breaking anything, … and the words at the press conference were enough to engineer a noticeable tightening of financial conditions while still leaving stock markets close to their all-time high.”

Adding, per Goldman Sachs Group Inc (NYSE: GS), rate hikes are set to occur in March, June, September, and December with the balance sheet runoff starting July. 

As noted yesterday, an “abundance of excess liquidity could provide a cushion as the Fed drains liquidity, a cushion that did not exist in 2018.”

Perspectives: Interactive Brokers Group Inc’s (NASDAQ: IBKR) Chief Strategist Steve Sosnick suggests that “Even when we saw relatively higher short-term rates and a flattish curve, equities were able to push to what were then all-time highs. The risk of course is that those highs were about 30% below current levels.”

Also, per Grit Capital, opportunity in growth equities will occur as follows: 

“(1) Investing in free-cash-flow generative names that pull cash flows forward, shortening their duration (i.e., Microsoft Corporation [NASDAQ: MSFT] now trades at a lower P/E multiple than Retail Chain Costco Wholesale Corporation [NASDAQ: COST]). (2) Once the rebound takes hold, invest in high-growth companies that dominate their niche and are positioned in industries with rapid market expansion.”

Positioning: Expectations are for heightened volatility so long implied volatility is bid and markets continue to trade in a negative-gamma environment (wherein an options delta falls with stock price rises and rises when stock prices fall).

Factors that ought to support a counter-trend rally include the compression in volatility and strong buying support (measured by liquidity provision on the market-making side), after, as SpotGamma suggests, “markets have hit a ‘lower bound.’”

According to comments made by SqueezeMetrics, “traders (professional) bought tons of E-minis, and dealers facilitated.”

Graphic: Data SqueezeMetrics. Graph via Physik Invest.

A compression in volatility marks down the positive delta (directional exposure) of options counterparties are short. The positive vanna flow – “covering” of short-delta stock/futures hedges – is what could drive markets higher. 

Conversely, volatility could expand and that would have the opposite effect.

We shall watch the CBOE Volatility Index (INDEX: VIX) and VIX term structure for clues. Backwardation (inversion) in the term structure points to continued fear, instability.

Technical: As of 6:00 AM ET, Thursday’s regular session (9:30 AM – 4:00 PM ET), in the S&P 500, will likely open in the upper part of a negatively skewed overnight inventory, inside of prior-range and -value, suggesting a limited potential for immediate directional opportunity.

Spikes: Spike’s mark the beginning of a break from value. Spikes higher (lower) are validated by trade at or above (below) the spike base (i.e., the origin of the spike). 

The spike base is at $4,381.00 /ES. Above, bullish. Below, bearish.

In the best case, the S&P 500 trades higher; activity above the $4,346.75 high volume area (HVNode) puts in play the $4,415.00 untested point of control (VPOC). Initiative trade beyond the $4,415.00 VPOC could reach as high as the $4,449.00 VPOC and $4,486.75 regular trade high (RTH High), or higher.

In the worst case, the S&P 500 trades lower; activity below the $4,346.75 HVNode puts in play the $4,263.25 overnight low (ONL). Initiative trade beyond the ONL could reach as low as the $4,212.50 RTH Low and $4,177.25 HVNode, 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.

What People Are Saying

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.

Gamma: Gamma is the sensitivity of an option to changes in the underlying price. Dealers that take the other side of options trades hedge their exposure to risk by buying and selling the underlying. When dealers are short-gamma, they hedge by buying into strength and selling into weakness. When dealers are long-gamma, they hedge by selling into strength and buying into weakness. The former exacerbates volatility. The latter calms volatility.

Vanna: The rate at which the delta of an option changes with respect to volatility.

Charm: The rate at which the delta of an option changes with respect to time.

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.

Inversion Of VIX Futures Term Structure: Longer-dated VIX expiries are less expensive; is a warning of elevated near-term risks for equity market stability.

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 is also a Benzinga finance and technology reporter interviewing the likes of Shark Tank’s Kevin O’Leary, JC2 Ventures’ John Chambers, FTX’s Sam Bankman-Fried, and ARK Invest’s Catherine Wood, as well as a SpotGamma contributor developing insights around impactful options market dynamics.

Disclaimer

Physik Invest does not carry the right to provide advice.

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.

Categories
Commentary

Daily Brief For December 22, 2021

What Happened

Overnight, equity index futures were divergent while most commodity and bond products were sideways to higher. This is as traders position themselves for the less liquid holiday trade.

Ahead is data on gross domestic product and income (8:30 AM ET), consumer confidence, and existing home sales (10:00 AM ET).

Graphic updated 6:30 AM ET. Sentiment Neutral if expected /ES open is inside of 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. SHIFT data used for S&P 500 (INDEX: SPX) options activity. Note that options flow is sorted by the call premium spent; if more positive then more was spent on call options. 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.

What To Expect

On supportive intraday breadth and divergent market liquidity metrics, the best case outcome occurred; the S&P 500 auctioned away from intraday value, the levels at which participants found it most favorable to trade at.

Given the mechanical responses to key technical levels, visually-driven, weaker-handed participants (which seldom bear the wherewithal to defend retests) are very much in control.

Moreover, Tuesday’s activity, which was follow-through on Monday’s responsive buying, left low-volume structures in its wake. 

Virgin tests of the low-volume – a void of sorts – ought to hold. Successful penetration portends follow-through given the participants that were most active at those levels. 

Graphic: Divergent delta (i.e., non-committed buying as measured by volume delta or buying and selling power as calculated by the difference in volume traded at the bid and offer) in SPDR S&P 500 ETF Trust (NYSE: SPY), one of the largest ETFs that track the S&P 500 index, via Bookmap. The readings are supportive of responsive trade (i.e., rotational trade that suggests current prices offer favorable entry and exit; the market is in balance).

Context: In light of elevated implied volatility and limited macro, and micro catalysts, Goldman Sachs Group (NYSE: GS) sees “options selling strategies as attractive in the near term.”

“We estimate there is a 12% probability of a 1-month 5% down-move in the SPX in this economic environment based on our GS-EQMOVE model. Options are pricing a 22% probability of that size move indicating that puts are overvalued.”

The commitment of capital on lower directional volatility results in counterparties taking on more exposure to positive gamma which they will offset by supplying the market with liquidity, thereby pressuring the price discovery process.

Note: As a position’s delta rises with stock or index price rises, gamma (or how an option’s delta is expected to change given a change in the underlying) is added to the delta.

“I use this analogy of a jet,” Kai Volatility’s Cem Karsan once explained to me, referencing the three factors – the change in the underlying price (gamma), implied volatility (vanna), and time (charm) – that are well known to impact an options exposure to directional risk or delta. 

“As volatility is compressed, those jets will keep firing because … the hedging vanna and charm flows, and whatnot will push the markets higher.”

Still, many products are in lower liquidity and short-gamma (wherein an options delta decreases with stock prices rises and increases when stock prices drop) in which moves are more erratic.

If the S&P were to further trend sideways, as a result of the aforementioned hedging pressures, a decline in correlation – among volatile constituents – would be the only reconciliation.

A post-holiday collapse in implied volatility, coupled with the management of massive S&P positions, and relentless, seasonally-aligned “passive buying support,” may bring in positive flows that would bolster any attempt higher.

Graphic: A compression in the VIX term structure would provide markets a boost.

Expectations: As of 6:30 AM ET, Wednesday’s regular session (9:30 AM – 4:00 PM ET), in the S&P 500, will likely open in the upper part of a balanced overnight inventory, just outside of prior-range and -value, suggesting a potential for immediate directional opportunity.

Gap Scenarios In Play: Gaps ought to fill quickly. Should they not, that’s a signal of strength; do not fade. Leaving value behind on a gap-fill or failing to fill a gap (i.e., remaining outside of the prior session’s range) is a go-with indicator.

Auctioning and spending at least 1-hour of trade back in the prior range suggests a lack of conviction; in such a case, do not follow the direction of the most recent initiative activity.

In the best case, the S&P 500 trades sideways or higher; activity above the $4,623.00 point of control (POC) puts in play the $4,647.25 high volume area (HVNode). Initiative trade beyond the HVNode could reach as high as the $4,674.25 HVNode and $4,709.00 VPOC, or higher.

In the worst case, the S&P 500 trades lower; activity below the $4,623.00 POC puts in play the $4,585.00 VPOC. Initiative trade beyond the VPOC could reach as low as the $4,574.25 HVNode and $4,549.00 VPOC, 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. Learn about the profile.

What People Are Saying

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.

MCPOCs: POCs are valuable as they denote areas where two-sided trade was most prevalent over numerous day sessions. Participants will respond to future tests of value as they offer favorable entry and exit.

Volume-Weighted Average Prices (VWAPs): A metric highly regarded by chief investment officers, among other participants, for quality of trade. Additionally, liquidity algorithms are benchmarked and programmed to buy and sell around VWAPs.

About

After years of self-education, strategy development, 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.

Additionally, Capelj is a Benzinga finance and technology reporter interviewing the likes of Shark Tank’s Kevin O’Leary, JC2 Ventures’ John Chambers, and ARK Invest’s Catherine Wood, as well as a SpotGamma contributor, helping develop insights around impactful options market dynamics.

Disclaimer

At this time, Physik Invest does not carry the right to provide advice. 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.

Categories
Commentary

Daily Brief For December 6, 2021

What Happened

Overnight, equity index futures auctioned sideways to higher after Friday’s liquidation had the S&P 500 undercutting its 50-day simple moving average (SMA), a visual go/no-go level.

Strength shifted, again, to the Russell 2000 while the tech-heavy Nasdaq 100 was underwater. This comes as policymakers look to temper inflation with the tightening of monetary policy.

In regards to news, China’s central bank looked to boost liquidity for its slowing economy. It was also found that a new virus variant was not fueling a surge in hospitalizations; the U.S.’s adviser on the issue, Anthony Fauci, said there wasn’t “a great degree of severity to omicron.”

That didn’t stop the economists at Goldman Sachs Group Inc (NYSE: GS) from cutting their forecasts for U.S. GDP next year; the estimates were revised down on an expectation the omicron strain would drag growth.

Ahead are no important releases on fundamental data.

Graphic updated 6:30 AM ET. Sentiment Neutral if expected /ES open is inside of 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. SHIFT data used for S&P 500 (INDEX: SPX) options activity. Note that options flow is sorted by the call premium spent; if more positive then more was spent on call options. 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.

What To Expect

On weak intraday breadth and divergent market liquidity metrics, the worst outcome occurred; there was an expansion of range, to the downside, and participants spent the majority of the session building value at lower prices (i.e., levels at which 70% of that day’s volume occurred).

The lower bound of Friday’s range was $4,500.00 or so, at which the 50-day SMA corresponded with a large base of resting liquidity. 

To note, the 50-day is visual level at which short-term, technically-driven participants were likely buying in response to probes below developing balance. 

Successfully auctioning beneath the 50-day is a concern. Those short-term participants lack the wherewithal (both emotional and financial) to defend retests.

Continuation lower, in such a case, is likely.

Graphic: Divergent delta (i.e., non-committed selling as measured by volume delta or buying and selling power as calculated by the difference in volume traded at the bid and offer) in SPDR S&P 500 ETF Trust (NYSE: SPY), one of the largest ETFs that track the S&P 500 index, via Bookmap. The readings are supportive of responsive trade (i.e., rotational trade that suggests current prices offer favorable entry and exit; the market is in balance).

Context: The Fed’s intent to moderate stimulus and uncertainty with regards to how a new COVID-19 variant will impact the global recovery.

According to Bloomberg, “the Fed is seen responding to the inflation fears stalking businesses by leaning toward an older playbook of prioritizing the fight against price pressures — even if that risks weaker growth over the longer term.”

In line with the aforementioned, traders already started pricing in potential rate overshoots with the “December 2024 eurodollar yields [rising] above December 2025 contracts, a curve inversion that signals expectations the central bank may consider cutting rates in 2025.”

The result is that the U.S. may realize the swiftest tightening in financial conditions since 2005 if the Fed was to hike rates three times next year.

Graphic: Via Bloomberg, trades price in a rapid increase in the real Fed rate.

This development carries weight; now, more than during the tech-and-telecom bubble, low rates support current valuations.

Graphic: Low rates support current valuations better than the ‘90s, according to Nasdaq.

The reason being? 

“Lower interest rates lead to future cashflow discounting less – leading to higher valuations. From another perspective, a company with a 5% profit margin is a much more attractive investment when long-term borrow costs are less than 2%, as they are now than when it costs 5%-7% to borrow money back in the ‘90s.”

The Fed’s intent to taper faster, and eventually hike rates, just as liquidity conditions have deteriorated, pushed “the orange dot [in the above graphic] toward the right during the year.”

Notwithstanding, “growth in earnings is so far stronger than the multiple compression caused by rising rates (blue line),” and that is helping support this year’s rally.

The intent to moderate stimulus is likely to serve as a headwind; there’s always a possibility of unanticipated policy adjustments, in the face of a resurgent COVID-19 digging further into the economy’s growth.

That’s partially why we saw Goldman Sachs cut their forecasts for GDP. 

Graphic: Via The Market Ear. Goldman Sachs cut its forecast for GDP.

But, for every negative view, there is a positive (either by the same institution or a competitor).

We see JPMorgan Chase & Co (NYSE: JPM), among others, doubling down on their bullishness.

“We are calling for another year of positive earnings surprises, relative to current consensus estimates.”

Similarly, the market may shrug off omicron just as it did beta and delta

Graphic: Via The Market Ear, the market shrugs off COVID-19 variants with ease.

And, despite the market’s trade in short-gamma (a “negative [gamma] implies the opposite [selling into lows, buying into highs], thus magnifying market volatility”) destabilizing demand for downside protection is concentrated in shorter-dated options

Graphic: A roll lower in the VIX term structure brings in supportive flows. Via The Market Ear.

Once that short-dated protection rolls off the table (and/or is monetized), counterparties will quickly reverse and support the market, buying to close their existing stock/futures hedges.

This flow is stabilizing and may play into a seasonally-aligned rally into Christmas as participants see defenses rolled out against the new COVID-19 variant, and the positive effects of pro-cyclical inflation, economic growth, and improvements in global trade.

Such development plays into a thesis held by Moody’s Corporation (NYSE: MCO). 

“The forecast is that the Dow Jones Industrial Average increases this quarter and peaks in early 2022. However, the rest of the contours of the forecast didn’t change. We expect the DJIA to steadily decline throughout 2022, but because it will now peak later than previously thought, the level of the DJIA will be higher at the end of next year and over the near-term forecast.”

Similarly, here are some views by Morgan Stanley (NYSE: MS), compiled by The Market Ear. 

“The Morgan Stanley’s Global Risk Demand Index (GRDI) [fell] to a 10Y low reading of -4.2SD, last Friday (currently -3.SD). Historically, such a level has proved to be a solid buy signal over the next 3m. Other signs that investor sentiment has overshot to the downside include the VIX > 30, a steep put-call skew, and the AAII survey where 42% of respondents are bearish (90th percentile reading). Over the last decade, MSCI ACWI has risen 98% of the time over the next 3m post this signal and by an average of 10%.”

Expectations: As of 6:30 AM ET, Monday’s regular session (9:30 AM – 4:00 PM ET), in the S&P 500, will likely open in the middle part of a positively skewed overnight inventory, inside of prior-range and -value, suggesting a limited potential for immediate directional opportunity.

Balance-Break Scenarios: A change in the market (i.e., the transition from two-time frame trade, or balance, to one-time frame trade, or trend) may occur.

Monitor for acceptance (i.e., more than 1-hour of trade) outside of the developing balance area. Rejection (i.e., return inside of balance) portends a move to the opposite end of the balance.

In the best case, the S&P 500 trades sideways or higher; activity above the $4,523.00 untested point of control (VPOC) puts in play the $4,551.75 low volume area (LVNode). Initiative trade beyond the LVNode could reach as high as the $4,574.25 high volume area (HVNode) and $4,590.00 balance area high (BAH), or higher.

In the worst case, the S&P 500 trades lower; activity below the $4,523.00 VPOC puts in play the $4,492.25 regular trade low (RTH Low). Initiative trade beyond the RTH Low could reach as low as the $4,471.00 and $4,425.00 VPOC, or lower.

Click here to load today’s updated 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. Learn about the profile.

What People Are Saying

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.

Liquidation Breaks: The profile shape suggests participants were “too” long and had poor location.

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, 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.

Additionally, Capelj is a Benzinga finance and technology reporter interviewing the likes of Shark Tank’s Kevin O’Leary, JC2 Ventures’ John Chambers, and ARK Invest’s Catherine Wood, as well as a SpotGamma contributor, developing insights around impactful options market dynamics.

Disclaimer

At this time, Physik Invest does not manage outside capital and is not licensed. 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.