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Case Study: How A Bearish S&P 500 Trade Turned Into A Multibagger

Before the 2022 equity market decline, investors foresaw weakness in response to the coming monetary tightening. They repositioned and hedged their equity downside with allocations to commodities and options, colloquially referred to as volatility.

The commodity exposure worked well, while the volatility exposure did not work well. Consequently, the 2022 equity market decline was unlike many before; the monetization and counterparty hedging of existing customer options hedges and the sale of short-dated options, particularly in some of the single names where implied volatility or IVOL was rich, lent to lackluster volatility performance. Some may have observed tameness among IVOL measures such as the Cboe Volatility Index or VIX.

“One-year variance swaps or implied volatility on an at-the-money S&P 500 put option would trade somewhere in the neighborhood of 25 to 30%,” said Michael Green of Simplify Asset Management. “That implies a level of daily price movement that is difficult to achieve.”

Eventually, entering August 2022, entities were getting squeezed out of these trades that did not work. The market advanced as participants rotated out of options and commodities; a macro-type re-leveraging ensued on improvements in inflation data, an earnings season that was better than expected, and “crazy tax receipts,” among other things. In August of 2022, the advance climaxed the week of monthly options expiry or OpEx, as shown below.

Graphic: Retrieved from Cboe Global Markets Inc (BATS: CBOE).

Why did the advance climax the week of OpEx? Well, heading into that particular week of OpEx, markets were rising quickly, and call options (i.e., bets on the market upside) were highly demanded.

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

Those on the other side of the call option trades (i.e., counterparties) thus hedged in a supportive manner (i.e., counterparties sell calls to customers and buy underlying to hedge exposure).

Eventually, traders’ activity in soon-to-expire options concentrated at specific strikes – particularly $4,300.00 in the S&P 500 – while IVOL trended lower. The counterparty’s response, then, did more to support prices and reduce movement. That is because, with time passing and volatility declining, options Gamma (i.e., the sensitivity of an option to direction) became more positive; the range of spot prices across which Delta (i.e., options exposure to direction) shifts rapidly shrunk. When options Gamma exposure is more positive, market movements may positively impact the counterparty’s position (i.e., movement benefits them). However, if the counterparty is not interested in realizing that benefit, it may hedge in a manner that dulls the market’s movement. This is, in part, what happened, in the late stages of the August rally. After the S&P 500 hit $4,300.00, the near-vertical price rise sputtered. Soon, follow-on support, both from a fundamental (e.g., liquidity) and volatility perspective, would worsen following OpEx.

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

Why the removal/weakening of support? OpEx would trigger “a big shift in market positioning,” Nomura Holdings Inc’s (NYSE: NMR) Charlie McElligott explained at the time.

In short, participants’ failure to roll forward their expiring bets on market upside coincided with a message that the Federal Reserve (Fed) would stay tough on inflation. After OpEx, those same bets prompting counterparties to stem volatility and bolster equity upside were removed (i.e., expire). We can visualize this by the drop in Gamma exposures post-OpEx, as shown below.

Graphic: Created by Physik Invest. Data by SqueezeMetrics.

Accordingly, August OpEx, combined with technical and fundamental contexts prompting funds to “reload[] on short sales,” shocked the market into a higher volatility, negative Gamma environment. In this negative Gamma environment, put options, through which the vast majority of participants speculate on lower prices and protect their downside, solicited far more pressure from counterparties. If markets continued trading lower, traders would likely continue rotating into those put options, further bolstering pressure from counterparties. This happened, as shown below.

Graphic: Retrieved from SpotGamma. “There was a huge surge in large trader put buying in the equities space last week as per the OCC data.”

Demand for put options protection was bid IVOL. To hedge against this demand for protection and rising IVOL, counterparties sold underlying. This compounded bearish fundamental flows.

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

In late August, new data suggested September would have “a very large options position as it is a quarterly OpEx,” SpotGamma said. With positioning “put heavy,” a slide lower, and an increase in IVOL was likely to drive continued counterparty “shorting” with little “relief until Jackson Hole.”

Based on this information, Physik Invest sought to initiate trades expecting markets to trade lower and more volatile.

Call option premiums appeared attractive in mid-August, partly due to interest rates, while IVOL metrics seemingly hit a lower bound. This was observable via a quick check of skew, a plot of IVOL for options across different strike prices. Usually, skew, on the S&P 500, shows a smirk, not a smile. This meant it was likely that short-dated, wide Put Ratio Spreads had little to lose in a sideways-to-higher market environment. Additionally, call Vertical Spreads above the market were relatively more expensive.

Graphic: Retrieved from Cboe Global Markets Inc (BATS: CBOE). Updated August 17, 2022. Skew steepened into $3,700.00 and below $3,500.00 in the S&P 500.

Given the above context, the following analysis unpacks how Physik Invest traded options tied to the S&P 500 leading up to and through the August 19 OpEx, into the Jackson Hole Economic Symposium.

Note: Click here to view all transactions for all accounts involved.

Sequence 1:

Through August 12, 2022, after a volatility skew smile was observed, the following positions were initiated while the S&P 500 was still trending higher for a net $7,616.68 credit.

Positions were structured in a way that would potentially net higher credits had the index moved lower.

  • SOLD 10 1/2 BACKRATIO SPX 100 (Weeklys) 26 AUG 22 3700/3500 PUT @ ~$0.13 Credit
  • SOLD 3 VERTICAL SPX 100 21 OCT 22 [AM] 4300/4350 CALL @ ~$25.10 Credit

Sequence 2:

While the S&P 500 was trading near $4,300.00 resistance, by 8/19/2022, all aforementioned Ratio Put Spread positions were rolled forward for a $452.26 credit.

The resulting position was as follows:

  • -17 1/2 BACKRATIO SPX 100 (Weeklys) 16 SEP 22 3700/3500 PUT
  • -3 VERTICAL SPX 100 21 OCT 22 [AM] 4300/4350 CALL

From thereon, the market declined and, by 9/1/2022, all positions were exited for a $6,963.84 credit.

  • BOT 17 1/2 BACKRATIO SPX 100 (Weeklys) 16 SEP 22 3700/3500 PUT @ ~$4.94 Credit
  • BOT 3 VERTICAL SPX 100 21 OCT 22 [AM] 4300/4350 CALL @ ~$4.57 Debit

Summary:

The trades netted a $15,032.78 profit after commissions and fees.

The max loss (absent some unforeseen events) sat at ~$6,790.00 if the S&P 500 closed above $4,350.00 in October. Because the Ratio Put Spreads were initiated at no cost, any loss would have resulted from the trade’s Vertical Spread component if the market went higher.

Overall, this trade netted more than a 200% return; the trade’s profit was more than two times the initial debit risk, a multi-bagger.

Reflection:

Heading into the trades, it was the case that IVOL performed poorly during much of the 2022 decline. This would likely remain the case on any subsequent drop; hence, the ultra-wide and short-dated Ratio Put Spread.

Despite the Ratio Put Spread exposing the position to negative Delta and positive Gamma (i.e., the trade makes money if the market moves lower, all else equal), if implied skew became more convex (i.e., implied volatilities grow more rapidly as strike prices decrease), the position could have been a giant loser. So, if the flatter part of the skew curve (where the position was structured) became more convex (i.e., rose), which is not something that was anticipated would happen, then the only recourse would have been to (1) close the position or (2) sell (i.e., add static negative Delta in) futures and correlated ETFs. In the second case, the trade would have allowed time to work (i.e., let Theta work) and become a potential winner.

Additionally, under Physik Invest’s risk protocol, more Short Put Ratio Spread units could have been initiated on the transition into Sequence 2. These units could have been held through Labor Day and monetized for up to an additional ~$4.00 credit per unit.

Though additional units of the Vertical Spreads could not have been added due to the strict limits to debit risks, there were still months left to that particular trade component. With lower prices expected, there was little reason the Verticals should have been removed fast.

Going forward, should the context from a fundamental and volatility perspective remain the same, only on a rally could Physik Invest potentially re-enter a similar position.

Categories
Commentary

Daily Brief For June 13, 2022

The daily brief is a free glimpse into the prevailing fundamental and technical drivers of U.S. equity market products. Join the 300+ that read this report daily, below!

What Happened

Overnight, futures for commodities, the equity indexes, and bonds were weak. There was no salvation in different assets. Instead, the realized correlation, across markets, tightened.

This is on the heels of inflation data updates that have traders pricing a 50-50 odds for a 75 basis point interest rate hike in July, after a 50 basis point hike this month.

That said, Ben Bernanke, who is a former Federal Reserve (Fed) Chair, said monetary policy leaders may be able to sidestep a big recession, expressing hopes that improvements in supply chains, among other things, would help rein inflation.

In other news, Chinese military officials warned their U.S. counterparts to avoid the Taiwan Strait and dismissed the need for the United Nations to review labor standards in the Xinjiang region.

This is as Britain’s economy unexpectedly shrank and Russia claims it has destroyed U.S. and European weapons stores in Ukraine. Additionally, despite OPEC+’s modest output gains, the average price of a gallon of gas rose to over $5 per gallon in the U.S. 

This output shock is likely to last into 2023 with gas potentially reaching as high as $6-$7.

Interestingly, as an aside, power grid operators in the Midwest are suggesting rolling blackouts in the coming years. This is just as power use in the South hit all-time records.

Ahead is data on inflation expectations (11:00 AM ET). This week’s focus is on the Federal Open Market Committee’s (FOMC) monetary policy decisions and large derivative expirations.

Graphic updated 6:30 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: The CPI report was released Friday. 

Expected was an 8.2% rise year-over-year (YoY) and 0.7% month-over-month (MoM). Core CPI (which excludes food and energy) was to rise by 5.9% YoY and 0.5% MoM, respectively.

Officially, the headline number rose to 8.6%, and, the same day, consumer sentiment dropped to record lows while expectations for inflation (5-10 years from now) jumped 0.3%.

Graphic: Via All-Star Charts. Taken from the Weekly S&P 500 ChartStorm.

As Bloomberg’s John Authers put it well, the report’s details “were if anything even more alarming. There’s no way around it; this was a bad report.”

Graphic: Via Schroders plc (OTC: SHNWF). Taken from the Weekly S&P 500 ChartStorm. “Everyone’s (current) favorite economic data report was out this week and it showed annual CPI inflation running at an 8.6% clip. On this chart that would imply a P/E ~11x (Current P/E is ~20x).

Subsequently, a key part of the U.S. yield curve turned upside down while traders priced more tightening by September (i.e., two 50 basis point hikes and one that is potentially 75 basis points), selling nearly everything but the U.S. dollar.

Graphic: Via CME Group Inc’s (NASDAQ: CME) FedWatch Tool.

Early last week, after commentaries resumed, we talked about the reach for cash amid poor safety in fixed income and stock price declines.

Ultimately, to quote Joseph Wang who was a trader at the Fed, an increase in the RRP (reverse repo) and QT (which is a direct flow of capital to capital markets) “would drain the pool of bank deposits by ~$1t by year-end,” and this may prompt investors to “continue to lower their selling prices to compete for the cash they want.”

Graphic: Via McClellan Financial Publications. “These bonds move a lot more like the stock market than like T-Bonds. What makes them even more interesting is that they tend to be terribly sensitive to liquidity, both good and bad.”

“Inflation is eating margins, eating consumer demand, and causing the dramatic monetary tightening we are witnessing. None of this is good for stocks,” said James Athey of Abrdn. 

“There is still much downside to come.” 

Positioning: In short, prior-mentioned supply and demand dynamics resulted in divergences between the volatility that the market realizes (RVOL) and that which is implied (IVOL).

Graphic: Via Robson Chow, founder at Tradewell. The SPDR S&P 500 ETF Trust (NYSE: SPY) “is off ~5% in two trading sessions and implied volatility is still below realized volatility.”

Basically, participants are hedged and volatility remains well-supplied, due in part to suppressive volatility selling, as well as passive flows supporting the largest index constituents.

Consequently, the market’s descent has been orderly and not exacerbated by the demand for hedges and associated repricings of volatility.

This was expected, per Kai Volatility Cem Karsan’s commentary published in December 2021.

Graphic: Commentary published by Kai Volatility.

Accordingly, for “divergences in RVOL and IVOL to resolve, it would likely take forced selling,” as I explained in a recent SpotGamma commentary.

This is similar to the happenings of the Global Financial Crisis when, according to The Ambrus Group’s Kris Sidial, “vol slowly [ground] until the eventual October 2008 move (i.e., Lehman).”

“The markets were understanding that there was a change going on, especially in credit. But that risk was discounted until it was forced into realization.”

In light of this, on June 8, we talked about long volatility structures (that, one, either sold very short-dated pre-FOMC and OPEX volatility to fund that which is farther-dated or, two, buy into implied skew convexity, non-linear with respect to delta [gamma] and vega [volga] changes).

Why would you do that?

When you think there is to be an outsized move in the underlying, relative to what is priced, you buy options (positive exposure to gamma) so that you may have gains that are potentially amplified in case of directional movement.

When you think there is to be an outsized move in the implied volatility, relative to what is priced, you buy options (positive exposure to volga) so that you may have gains that are potentially amplified in case of implied volatility repricing.

Graphic: Via Banco Santander SA (NYSE: SAN) research.

Ultimately, “liquidity providers’ response to demand for protection (en masse) would, then, likely exacerbate the move and aid in the repricing of volatility to levels where there would be more stored energy to catalyze a rally.”

More on these dynamics later this week.

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.

In the best case, the S&P 500 trades higher; activity above the $3,808.50 HVNode puts in play the $3,836.25 LVNode. Initiative trade beyond the $3,836.25 LVNode could reach as high as the $3,863.25 LVNode and $3,911.00 VPOC, or higher.

In the worst case, the S&P 500 trades lower; activity below the $3,808.50 HVNode puts in play the $3,768.25 HVNode. Initiative trade beyond the $3,768.25 HVNode could reach as low as the $3,727.75 and $3,688.75 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.

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.

Point Of Control: 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.

Micro Composite Point Of Control: 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, 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 June 10, 2022

The daily brief is a free glimpse into the prevailing fundamental and technical drivers of U.S. equity market products. Join the 300+ that read this report daily, below!

What Happened

Overnight, equity index futures continued lower after breaking a multi-day consolidation late yesterday afternoon.

This is amid growth concerns and the European Central Bank (ECB) decision to end asset purchases this month and commit to a 25-basis-point interest rate hike at its next meeting, setting the stage for further rate hikes, potentially 50-basis-points or higher.

Ahead are updates to consumer prices (8:30 AM ET), which may shed further clarity on the path of the Federal Reserve’s policies. Later are updates to consumer sentiment and inflation expectations (10:00 AM ET), as well as the budget balance (2:00 PM ET).

Graphic updated 6:30 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: The CPI report is a driver of perceptions regarding future Fed activity.

Graphic: Via Societe Generale SA (OTC: SCGLY). Taken from The Market Ear. SocGen’s Kit Juckes explains that “the Fed put its foot down on the accelerator in 2020, harder than ever before, to keep the global economy going. Now it’s put its foot on the brake, equally hard but perhaps, a little bit late. How this plays out will become clearer in the coming weeks.”

Expected is an 8.2% rise year-over-year (YoY) and 0.7% month-over-month (MoM). In April, these numbers were 8.3% and 0.3%, respectively.

Core CPI (which excludes food and energy) is expected to rise by a rate lower than in April, 5.9% YoY and 0.5% MoM, respectively.

Graphic: Via Bloomberg. “For two straight months, fuel, power and grocery-store food have all been rising at double-digit annual rates—and tomorrow’s data is likely to show a further surge. Meantime, stocks fell with growth concerns in focus after the ECB moved to combat inflation.”

What matters most is the latter – core inflation – which the Fed has more control over. If lower than expected, that may warrant more appetite for risk.

“While inflation in some parts of the world [is] yet to peak, there are at least some signs emerging that we may not be too far off in terms of a turning point,” adds Khoon Goh of Australia & New Zealand Banking Group ADR (OTC: ANZBY).

Bloomberg reports semiconductor prices are now down 14% from the middle of last year. Also, the spot rate for shipping containers fell 26% while fertilizer prices are 24% below their record.

Still, the commitment to aggressive contractionary monetary policies is likely to remain. This reduction of liquidity and credit has consequences on the real economy and asset prices which rose and kept the deflationary pressures of monetary intervention at bay.

Positioning: It remains profitable to own options structures as implied (IVOL) underprices the volatility which is realized (RVOL).

This is the result of what options analytics service SqueezeMetrics suggests is an “absolute slamming” (i.e., sale of options) that’s compressing IVOL in shorter-dated tenors. 

It is “[o]nly rational to consider a bulk of them as put underwrites, because completely irrational otherwise.”

Important to note that this is in the context of next week’s large options expirations.

Into those events, typically, the frontrunning of delta hedging flows with respect to changes in time (charm), mainly, and volatility (vanna) provide an added boost. 

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.”

As stated Monday, however, the marginal impact of further volatility compression, since IVOL was falling from already low levels, was likely to do less to bolster equity upside. 

A lot of the supportive action happened in the days and weeks prior, hence the comments on owning options.

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

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 lower part of a negatively skewed overnight inventory, outside of prior-range and -value, suggesting a potential for immediate directional opportunity.

In the best case, the S&P 500 trades higher; activity above the $4,016.25 HVNode puts in play the $4,055.25 LVNode. Initiative trade beyond the LVNode could reach as high as the $4,071.50 BAL and $4,095.00 VPOC, or higher.

In the worst case, the S&P 500 trades lower; activity below the $4,016.25 HVNode puts in play the $3,982.75 LVNode. Initiative trade beyond the LVNode could reach as low as the $3,951.00 VPOC and $3,909.25 MCPOC, 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.

Standard 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.

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.

Point Of Control: 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.

Micro Composite Point Of Control: 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, 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 May 25, 2022

The daily brief is a free glimpse into the prevailing fundamental and technical drivers of U.S. equity market products. Join the 300+ that read this report daily, below!

What Happened

Overnight, equity index futures were steady alongside commodities and bonds. This is ahead of the release of minutes from a Federal Reserve (Fed) policy meeting. 

In the news were advertising and social media firms. Snap Inc (NYSE: SNAP) warned of slower growth and deterioration in the macro-environment. Its peers Meta Platforms Inc (NASDAQ: FB), Alphabet Inc (NASDAQ: GOOGL), and Twitter Inc (NYSE: TWTR) also saw weakness.

China’s COVID Zero commitment likely nudges it off a path to achieve economic targets “by a large margin for the first time ever,” as Bloomberg explains

This is as China and Russia have conducted one of their largest joint air drills “to send their own political, economic and military message to the international community,” much of which is at Davos, Switzerland doing thought exercises.

In a recent podcast, Pippa Malmgren, who is a former White House adviser and economist, well said, particularly in reference to some of the tension abroad, that “autocracy is not working well,” and “[y]ou go to war because … you have a domestic objective.”

Thought it was interesting. Give it a listen, here.

And, finally, Michael Burry of the “Big Short” sent a cryptic tweet alluding to what is likely the risk of another financial collapse. 

Moreover, ahead is data on durable goods and core capital equipment orders (8:30 AM ET). Later, the Fed publishes the minutes of its last policy meeting (2:00 PM ET).

Graphic updated 6:10 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 Fed will issue policy meeting minutes that may provide clarity with respect to its intent to hike and reduce the size of its balance sheet.

In focus, per ex-Fed insider Ellen Meade, is “the rate path, the expected economic conditions, and what policymakers want to see from the data before they slow the pace of tightening.”

“The minutes may tell us they see the tightening in conditions this time around as greater than in earlier cycles. If that’s the case, then they may judge that they don’t need to raise the funds rate by as much this time around.”

Graphic: Via Morgan Stanley (NYSE: MS) research.

John Authers notes, however, that “inflation tends to move in waves” and it doesn’t, usually, “plateau and stay there.”

Graphic: Via Bloomberg.

“That suggests that even though the focus is already shifting to whether there is evidence of a growth slowdown,” he added, in a statement echoed by Meade who is betting on slower “GDP growth, below its longer-run rate, and a rise in the unemployment rate, perhaps to its longer-run median rate or slightly above.”

Graphic: Via Bloomberg.

Pursuant to those last remarks, the Fed’s Raphael Bostic is already floating a pause to rate hikes near September if inflation falls more than expected over the summer.

As Diane Swonk of Grant Thorton explains, “Policy works with a lag. The Fed wants to catch up but not outrun the market in its effort to tighten credit market conditions.”

Graphic: Via Bloomberg.

Futures First analyst Rishi Mishra, who is also the author of the “On Another Note” newsletter, suggests the Federal Open Market Committee may, rather, hone in on monthly changes with annual inflation still elevated.

“This brings down inflation expectations into a range where the Fed feels comfortable about de-anchoring risks,” Mishra said.

Graphic: Via JPMorgan Chase & Co (NYSE: JPM). Taken from Bloomberg. Though, potentially, “premature,” JPM’s model tracking the S&P 500, credit spreads and yield curve implies a 40% chance of a recession.

JPM’s Marko Kolanovic adds: “We have gone from a situation where both stocks and bonds were sold on the back of de-leveraging, to a situation where bonds rallied as stocks fell, nudging stock/bond correlations toward a more normal (negative) level.”

“We do indeed think this is where things could be gradually heading, but we acknowledge this is not likely to play out in a linear way.”

Graphic: Via @MrBlonde_macro. “Stock/bond correlation negative over the last 10 days. Some ‘normalization’ in cross-market relationships can be a source of relief.” The flip happened with 10-year yields at or above 3%.

Positioning: In yesterday’s in-depth write-up, we talked about the underperformance of implied volatility (IVOL), relative to that which is realized (RVOL).

Dennis Davitt of Millbank Dartmoor Portsmouth had explained that the “RVOL of the underlying S&P 500 is above 27% … with IVOL of options trading between 24%-27%,” which translates to a VIX at 30%.

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

So, essentially, it makes more sense to have exposure to underlying markets, synthetically (i.e., own options). 

This, though, merits a bit more clarification (as I do not want it to be construed as if I was buying, systemically, bets on the downside). The opposite, actually.

Moreover, this was stated in the context of a market that is “(1) stretched and (2) near a critical inflection which we see at $3,700.00 SPX,” per SpotGamma. Separately, investors are bidding “skew on the call side” amid their “fear of missing on the upside.”

That’s when it makes sense to buy closer to at-the-money (ATM) and sell farther from ATM, or out-of-the-money (OTM). For instance, a margin intensive but low cost call +1 [ATM] x -2 [OTM] ratio spread

Note, however, that width and timing are everything. Too much time or too narrow may result in asymmetric losses when the demand for upside bets further out in price and time bids the skew that you’re short, relative to the at-the-money volatility you own. 

I’m willing to talk through this via email, if interested. Ping me at renato@physikinvest.com. I’m mindful that if I do post actual trade ideas, people may take them without knowing how to size and manage them, accordingly. Big yikes!

Goldman validates this thesis: “Even though the VIX’s reaction to recent spot downside has been mild, its high starting point leaves vol high overall, and we like strategies with a short volatility bias, including put selling and 1×2 call spread overlays.”

Graphic: Via Banco Santander SA (NYSE: SAN) research, the return profile, at expiry, of a classic 1×2 (long 1, short 2 further away) ratio spread.

Further, though SpotGamma assigns an edge to lower prices until the June FOMC and OPEX, “markets (which are already ‘fully loaded’ with puts) [are likely] pressured by liquidity providers’ hedging [at most] down to $3,700.00,” the area where that added pressure from hedging cools.

Graphic: Via SpotGamma.

Technical: As of 6:15 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 balanced overnight inventory, just 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 $3,943.25 HVNode puts in play the $3,969.00 ONH. Initiative trade beyond the ONH could reach as high as the $4,061.00 VPOC and $4,095.00 ONH, or higher.

In the worst case, the S&P 500 trades lower; activity below the $3,943.25 HVNode puts in play the $3,917.00 VPOC. Initiative trade beyond the VPOC could reach as low as the $3,863.25 LVNode and $3,831.00 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.

Considerations: Push-and-pull, as well as responsiveness near key-technical areas (discernable visually on a chart), suggests technically-driven traders with shorter time horizons are very active.

Such traders often lack the wherewithal to defend retests.

Large participants (who often move by committee) seldom respond to key technical inflections. It is their activity that often results in poor reliability of our technical levels.

Sometimes, the better trade is to wait for the larger participants’ entry and use the expansion of the range as a confirmation of a new trend.

Catalysts to consider include the release of Federal Open Market Committee (FOMC) minutes, Wednesday.

Definitions

Overnight Highs And Lows (ONH and ONL): 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 value tests 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 May 24, 2022

The daily brief is a free glimpse into the prevailing fundamental and technical drivers of U.S. equity market products. Join the 300+ that read this report daily, below!

What Happened

Overnight, equity index futures softened after what appeared to be continued covering of shorts into Monday’s close. Commodities were mixed, bonds higher, and implied volatility higher.

In the news the amount of money parked at major Federal Reserve facilities climbed to another all-time high, passing $2 trillion. JPMorgan Chase & Co’s (NYSE: JPM) CEO Jamie Dimon said recently that the Fed must do quantitative tightening since there’s too much liquidity in the pipes.

Adding, the Fed’s Raphael Bostic said policymakers may hike rates by 0.50 basis points after their next two meetings before pausing in September to allow for observation. This is as banks UBS Group AG (NYSE: UBS) and JPMorgan Chase & Co cut their expectations for growth here and abroad.

Ahead is data on S&P Global Inc (NYSE: SPGI) manufacturing and services (9:45 AM ET). Later, participants get updates on new home sales (10:00 AM ET) and Fed-speak by Chair Jerome Powell. Later this week, on Wednesday, participants will receive minutes of the Fed’s most recent meeting which may provide further insight into the central bank’s intent to tighten.

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: So long as market participants are using JPEG images of rocks as collateral for debt, it is likely we have not reached a more permanent bottom in the broad market. 

Kidding – just trying to lighten the mood, haha! Sorry to my crypto friends! 

For real, though, maybe the destruction of that market is what we’re to watch for.
Graphic: Via Corey Hoffstein. “You call it ‘tulip mania,’ but I’m gonna need to see evidence that the Dutch set up lending markets where they used paintings of rocks as collateral.”

Support of market excesses was liquidity in the financial system, a lot of which is now piling into the Fed’s overnight reverse repurchase agreement facility (RRPs).

Graphic: Via Bloomberg. Per the Federal Reserve Bank of New York: “A reverse repurchase agreement conducted by the Desk, also called a “reverse repo” or “RRP,” is a transaction in which the Desk sells a security to an eligible counterparty with an agreement to repurchase that same security at a specified price at a specific time in the future. The difference between the sale price and the repurchase price, together with the length of time between the sale and purchase, implies a rate of interest paid by the Federal Reserve on the transaction.”

Since the start of the year, however, the anticipation and pricing in of the removal of some of this liquidity have fed into market weaknesses.

Per the Damped Spring Advisors’ Andy Constan, the “Fed will reduce their balance sheet by choosing not to reinvest the proceeds of maturity payments of existing holdings back into the market. The U.S. Treasury will need to find new buyers for the bonds it issues.”

Please read our Daily Brief For May 5, 2022, here, for more on the Federal Reserve’s updates.

On June 1, the Fed will start the process of balance sheet reduction at $47.5 billion ($30B UST and $17.5B MBS) a month for the first three months. This will increase to $95 billion ($60B UST and $35B MBS), after, about double the maximum pace of $50 billion a month in 2017-2019.

Constan adds: “In June, that supply those markets will need to absorb will be $50 billion USD and will grow to $95 billion (of which some will be outright sales of mortgages by the Fed).”

Accordingly, “[j]ust as USD strength occurred as global investors chased U.S. assets, as the U.S. economy led the global economy out of the Covid chasm, the next leg of asset returns is more likely in countries that remain relatively easy and where the economy is still lagging.”

Goldman Sachs Group Inc’s (NYSE: GS) Vickie Chang notes: “Using history as a guide, in order for equities to come off their recent lows (and stop declining), this kind of monetary-tightening induced contraction is most likely to end when the Fed itself shifts.” 

“It may be that the market needs to see signs of the inflation deceleration that our US economists expect in the second half of the year in order to see sustained relief.”

Positioning: Pursuant to comments established last week, Dennis Davitt of Millbank Dartmoor Portsmouth explains that the “realized volatility of the underlying S&P 500 is above 27% … with implied volatility of options trading between 24%-27%,” which translates to a VIX at 30%.

“It is profitable to own options with such an active and volatile cash market. This is the opposite of 2017 where the VIX was at 10% and the realized was 7%,” a trade that leverage poured into and resulted in the spectacular short-volatility ‘Volmageddon’ blow-up in February of 2018.

Graphic: Via Banco Santander SA (NYSE: SAN) research.

What does this mean?

Davitt concludes that “18 months” out there are “elevated option prices which may foretell an increase in the volatility of the equity market through this time next year.”

Though the Cboe Volatility Index (INDEX: VIX) may print higher, it is likely that it does not spike and point to an immediate market bottom, all else equal, like it has in the very near past.

Graphic: Via Millbank Dartmoor Portsmouth.

How to play?

It makes more sense to have exposure to underlying markets, synthetically (i.e., own options). This is based on the current relationship between realized and implied volatility.

Graphic: Via Robson Chow, founder at Tradewell. “The spread between IV and RV remains quite low relative to the past 50 trading days and 1st decile in the historical data.  It is printing where, historically, the most forward realized volatility and the weakest relative mean returns over the next 60 days can be expected.”

This is in contrast to the thesis that “long volatility is a poor equity hedge” because, on average, it’s overpriced and has less than a 100% negative correlation with the equity market.

Graphic: Via Banco Santander SA (NYSE: SAN) research.

Given fundamental contexts, many foresee continued weaknesses. Notwithstanding, markets are stretched to the downside and the path of least resistance, based on prior comments, is up.

This is with the caveat that traders should look at the current window of time as a period during which markets have less pressure to rally against. Per SpotGamma, this is due to the put-heavy options expiration (OPEX), Friday. 

Still, the rally into Monday “pulled forward some of the energy from [those] options that were to roll off,” and now, participants are “much less hedged than they were.” Should demand return, that will bid options prices and likely solicit liquidity provider pressures which, all else equal, start to cool into the $3,700.00 S&P 500 area.

Graphic: Via SpotGamma.

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.

In the best case, the S&P 500 trades higher; activity above the $3,943.25 HVNode puts in play the $3,969.00 VPOC. Initiative trade beyond the VPOC could reach as high as the $4,061.00 VPOC and $4,095.00 ONH, or higher.

In the worst case, the S&P 500 trades lower; activity below the $3,943.25 HVNode puts in play the $3,908.75 MCPOC. Initiative trade beyond the MCPOC could reach as low as the $3,862.75 LVNode and $3,831.00 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.

Considerations: Push-and-pull, as well as responsiveness near key-technical areas (discernable visually on a chart), suggests technically-driven traders with shorter time horizons are very active.

Such traders often lack the wherewithal to defend retests.

Large participants (who often move by committee) seldom respond to key technical inflections. It is their activity that often results in poor reliability of our technical levels.

Sometimes, the better trade is to wait for the larger participants’ entry and use the expansion of the range as a confirmation of a new trend.

Catalysts to consider include the release of Federal Open Market Committee (FOMC) minutes, Wednesday.

Definitions

Overnight Highs And Lows (ONH and ONL): 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.

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.

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 May 20, 2022

The daily brief is a free glimpse into the prevailing fundamental and technical drivers of U.S. equity market products. Join the 300+ that read this report daily, below!

What Happened

Ahead of a $1.9 trillion options expiration, which we unpack later in the letter, the equity index and commodity futures, as well as yields, were bid.

This activity was on the heels of good news coming from overseas. China lowered prime rates on the five-year by a record to boost mortgages and loans amid an ongoing pandemic slump.

In other news, China warned the U.S. over a ‘dangerous situation’ forming over Taiwan, and the U.S. is set to block Russian debt payments, raising concerns of default. 

This is as Russian forces, per Michael Horowitz of Le Beck Int’l, broke “Ukrainian defenses west of Popasna in the Donbass, … a tactical success for Russia, the first in a very long time.”

Ahead, there is no data scheduled for release. Enjoy your Friday!

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: Fundamentally, the narrative remains the same, albeit there has been a rise in concern over global growth given persistent supply chokepoints and a commitment to reducing liquidity and credit.

Moody’s Corporation’s (NYSE: MCO) Mark Zandi explains “the odds that the economy will suffer a downturn beginning in the next 12 months at one in three with uncomfortable near-even odds of a recession in the next 24 months.”

Graphic: Via The Macro Compass. “Analyst consensus for the 2022 US real GDP growth has been consistently revised down this year.”

Per Bloomberg’s John Authers, U.S. housing is slowing down in the context of still-heightened sales. Data on home building suggests builders “aren’t running scared” while chokepoints still are feeding into support for house prices.

“Now, with inflation rising, the Fed is more concerned about wealth effects,” Authers explained. 

“The rise in asset prices has made a lot of people wealthier and encouraged them to spend accordingly. It’s also stoked inequality. A fall in home values would be helpful at this point,” and it’s something the Fed is keen on “pursuing,” as talked about in letters earlier this week.

Graphic: Via Bloomberg.

Positioning: Friday marks the roll off of $460 billion of derivatives across single stocks and $855 billion of S&P 500-linked contracts, according to a Bloomberg report quoting Goldman Sachs Group Inc (NYSE: GS) research.

Graphic: Via Goldman Sachs Group Inc. Taken from Bloomberg.

Into this event, participants are hedged and volatility remains well-supplied, due in part to suppressive volatility selling, as well as passive flows supporting the largest index constituents.

Consequently, the market’s descent has been orderly and not exacerbated by the demand for hedges and associated repricings of volatility.

This was expected, per Kai Volatility Cem Karsan’s commentary published in December 2021.

“If a meaningful volatility event has recently transpired [e.g., COVID-19], implied volatility demand tends to be high,” as sellers of it were liquidated in previous declines and “buyers have been rewarded with profits and demand for their services.”

Graphic: Via Bloomberg. “2022 is shaping up to be the busiest year for option trading. Almost 40 million contracts have changed hands daily on average, 6% above last year’s record, data compiled by Bloomberg show.”

“Market participants are thus overly hedged going into the second move, resulting in the suppression of implied volatility and skew along with a dampening of realized volatility.”

Graphic: Commentary published by Kai Volatility.

Given the aforementioned supply and demand dynamic, as well as illiquidity, we continue to observe a “divergence in the volatility (movement of underlying equity market up and down) realized, versus that which is implied by options activity,” SpotGamma says.

Graphic: Via @ftx_chris. “The relationship between illiquidity & volatility is a critical market driver for traditional markets now. In simple terms: lower liquidity creates increased volatility.”

“For some of these reasons – tempered measures of implied volatility – the market’s missing a lot of the ‘stored energy’ or ‘vanna fuel’ that’s helped support it in past periods of turmoil.”

Graphic: Via @HalfersPower. “1 day return distribution when QQQ ROC[1] > 3.7%. Historically you can expect the weakest relative mean forward returns, and second-highest mean realized volatility amongst deciles.”

So, barring changes in fundamentals, the catalysts to a potential rally are few and far between, and we elaborated on this in an earlier commentary.

Graphic: Via SqueezeMetrics. Updated May 13, 2022. “VIX compressing to 30 on a modest pre-market rally with dealer gamma exposure more negative than it’s been in years is not how you get sustained rallies—it’s how you get energy for bigger downside moves.”

Heading into Friday, Bloomberg quotes the $4,000.00 S&P 500 (INDEX: SPX) strike having “93,000 open positions set to run out, … includ[ing] 41,024 calls and 52,269 puts.”

Graphic: Via SpotGamma.

An open well below $4,000.00 means that this expiration will coincide with the removal of a lot of in-the-money put-delta. That means, post-expiration, per SpotGamma, “market makers will be free to buy back stocks to cover the short exposures that are no longer needed.” 

“Any ultimate rally off of Opex, we’d consider to be short covering, and subject to swift reversals into the end of next week.”

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, just 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 $3,943.25 high volume area (HVNode) puts in play the $4,061.00 untested point of control (VPOC). Initiative trade beyond the VPOC could reach as high as the $4,095.00 overnight high (ONH) and $4,119.00 VPOC, or higher.

In the worst case, the S&P 500 trades lower; activity below the $3,943.25 HVNode puts in play the $3,908.75 micro composite point of control (MCPOC). Initiative trade beyond the MCPOC could reach as low as the $3,862.75 and $3,836.25 low volume areas (LVNodes), 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: Push-and-pull, as well as responsiveness near key-technical areas (discernable visually on a chart), suggests technically-driven traders with shorter time horizons are (becoming) active.

Such traders often lack the wherewithal to defend retests.

Large participants (who often move by committee) seldom respond to key technical inflections. It is their activity that often results in poor reliability of our technical levels.

Sometimes, the better trade is to wait for the larger participants’ entry and use the expansion of the range as a confirmation of a new trend.

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.

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.

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 May 16, 2022

The daily brief is a free glimpse into the prevailing fundamental and technical drivers of U.S. equity market products. Join the 300+ that read this report daily, below!

What Happened

Overnight, equity index futures auctioned lower after a failed attempt to solicit strong buying on a break of Friday’s regular trade high. 

Coincidentally, after a test of an anchored volume-weighted average price level, some measures from China had traders concerned about global growth, and that fed into a risk-off sentiment and probe further into Friday’s range.

Moreover, ahead is data on Empire State Manufacturing (8:30 AM ET).

Today, we add light context to our narratives with an aim to elaborate further in letters later this week. Take care!

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: Data from China shows contraction in light of COVID-19 troubles.

Graphic: Via Bloomberg

Bloomberg’s John Authers explains that a contracting China “would be a deflationary force for the rest of the world.”

Graphic: Via Stenos Signals. “China imports vs. Commodities – the most important macro chart in the world right now.”

Andreas Steno Larsen, of the Stenos Signals letter, recently talked about this “lack of economic activity in China,” as well as “slowing demand in the West,” both of which are to “lead inflation expectations lower.”

Graphic: Via CrossBorder Capital. “Latest weekly Fed liquidity injections and the S&P 500. Bigger the bull, the harder they fall? Fed trying to crash [the] economy to kill inflation [and] Wall Street is the victim.”

Notwithstanding, the Federal Reserve (Fed) remains on track “to deliver substantial QT and rate hiking,” all the while investors “hold a relatively risk-friendly position in equities and credits.”

Graphic: Via Societe Generale SA (OTC: SCGLY). Taken from The Market Ear.

Steno Larsen explains: “That disconnect [between sentiment and exposure to risk] will have to wane before I truly dare to re-add risk asset exposure to my list of recommendations.”

Graphic: Via @TheBondFreak. University of Michigan Sentiment.

Pursuant to that remark, Authers notes that the latest Chinese data emboldens the risks of a recession which Credit Suisse Group AG’s (NYSE: CS) Zoltan Pozsar explains is not enough.

“[T]he risk of recession, whether it is real or merely implied by an inversion of the yield curve, won’t deter the Fed from hiking rates higher faster or from injecting more volatility to build up negative wealth effects, and signs of a recession might not mean immediate rate cuts to ramp demand back up.”

“Rallies could beget more forceful pushback from the Fed – the new game.”

Graphic: Via @TheBondFreak. “2/10s spread has delivered its message. The long end is beginning to trend lower. NOW…it’s time to start watching the 3m/10yr spread, which will likely invert as the Fed continues with its rate hikes to kill demand, cause a recession, but “us” from inflation.”

Per Goldman Sachs Group Inc (NYSE: GS), baseline forecasts assume “no recession” and imply the S&P 500’s P/E ends unchanged at 17x. 

“A recession would see the index fall by 11% to $3,600.00 as the P/E drops to 15x.”

Graphic: Via Goldman Sachs Group Inc. Taken from The Market Ear. A recession brings S&P 500 to $3,600.00.

Positioning: Early on Friday morning, we approached trade too optimistically but, to our credit, we focused on participating with as little risk as possible, via the use of complex strategies, as validated by quoted research.

Graphic: Via Goldman Sachs Group Inc. The VIX’s “high starting point leaves vol high overall, and we like strategies with a short volatility bias, including put selling and 1×2 call spread overlays.”

Heading into Monday’s regular trade, little has changed and indexes are holding well, relative to some constituents.

This is as participants are hedged and volatility markets remain well-supplied, due in part to suppressive volatility selling, as well as passive flows supporting the largest index constituents.

Kai Volatility’s Cem Karsan hypothesizes: “If a meaningful [volatility] event has happened within the last year, participants are more likely to be prepared for the move. So the ‘2nd event’ dramatically underperforms [implied volatility] skew expectations.”

“Take Jan/Feb 2016, Oct-Dec 2018, &…Sep 2020? All these ‘2nd Events’ ended up being as meaningful as their 1st events, if not more, for markets, but were much more orderly [and] accompanied by poor [volatility] performance.”

Graphic: Via Bloomberg. “For all the recent declines — the S&P 500 is down more than 13% from its high on March 29 — stress indicators also aren’t at levels seen during comparable slumps. Fewer than 30% of the benchmark’s members have hit a one-year low, compared with nearly 50% during the growth scare in 2018 and 82% during the global financial crisis in 2008.”

Given the aforementioned supply and demand dynamic, we continue to observe “divergence in the volatility (movement of underlying equity market up and down) realized, versus that which is implied by options activity,” SpotGamma says. 

Graphic: Via @HalfersPower. “1 day return distribution when QQQ ROC[1] > 3.7%. Historically you can expect the weakest relative mean forward returns, and second-highest mean realized volatility amongst deciles.”

For “divergences in volatility realized and implied to resolve, it would likely take forced selling. Liquidity providers’ response to demand for protection would, then, likely exacerbate the move and aid in the repricing of volatility to levels where there would be more stored energy to catalyze a rally.”

All else equal, SpotGamma adds, there is no catalyst to rally until the May 20, 2022 options expiration (OPEX). Till then, rallies are subject to failure.

Graphic: Via SqueezeMetrics. Updated May 13, 2022. “VIX compressing to 30 on a modest pre-market rally with dealer gamma exposure more negative than it’s been in years is not how you get sustained rallies—it’s how you get energy for bigger downside moves.”

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 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 $4,013.25 micro composite point of control (MCPOC) puts in play the $4,036.00 regular trade high (RTH High). Initiative trade beyond the $4,069.25 high volume area (HVNode) could reach as high as the HVNode and $4,119.00 untested point of control (VPOC), or higher.

In the worst case, the S&P 500 trades lower; activity below the $4,013.25 MCPOC puts in play the $4,3978.50 low volume area (LVNode). Initiative trade beyond the LVNode could reach as low as the $3,943.25 HVNode and $3,899.00 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.

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, 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
Methodology

LIVE: How To Navigate Market Volatility

Today, Physik Invest’s Renato Leonard Capelj joined Benzinga’s Spencer Israel and Aaron Bry live.

Topics discussed include Capelj’s thoughts on the current market environment, as well as how he goes about structuring trades around his opinion.

Tune in, below!

Categories
Commentary

Daily Brief For February 22, 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

During holiday and overnight trade, U.S. equity index futures probed below trading ranges established the week prior. Strong buying surfaced after a test of a key visual area.

Increased implied volatility (IV) to pressure markets as counterparties hedge directional risks. Present options positioning, combined with liquidity measures, suggest big moves up and down.

Ahead is data on the S&P Case-Shiller home price index and FHFA home price index (9:00 AM ET), Markit manufacturing and services PMI (9:45 AM ET), as well as the consumer confidence index (10:00 AM ET).

Graphic updated 6:40 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: Are markets in turmoil?

Depends. Abroad, yes. At home, yes (but not as much).

Russian stocks, alongside Russia-Ukraine angst, sank the most since the 2008 financial crisis, pressuring markets in other parts of the world, as well. Russia’s MOEX Index plunged ~14% Monday.

The geopolitical disputes come alongside the threat of contractionary monetary policy. 

Graphic: Via SpotGamma. “There’s been a big pop in put volumes for the higher yield bond ETFs: JNK, HYG, and LQD. This syncs with the idea this sell-off is based mainly on rates with a side of geopolitics.”

Some, however, say the risk premium expansion driven by inflation and tightening fears has run its course. 

Graphic: G5 credit impulse suggests inflation ought to trend lower. This particular metric, per Alfonso Peccatiello of The Macro Compass, leads GDP, CPI, and market returns by quarters.

According to a note published by Andy Constan of Damped Spring Advisors, “We believe that risk premium expansion has peaked. A new low … will require more than frontrunning but Fed action that is not currently priced into markets.”

That is as Mark Haefele, chief investment officer at UBS Group AG’s (NYSE: UBS) Global Wealth Management arm says that “Despite the recent volatility, it’s important to remember that we are still in an environment of robust economic and earnings growth.”

“Our base case we expect upside for equity markets over the balance of the year.”

Graphic: Via Bloomberg. “If market dysfunction is reflected in tighter conditions, then this chart shows we’re nowhere near stressed levels — after all, central bank policy globally is historically loose.”

JPMorgan Chase & Co’s (NYSE: JPM) Mislav Matejka adds that stock pessimism is wrong and positioning for a recession would be too early given favorable financing conditions, strong labor, an underleveraged consumer, as well as strong cash flows and bank balance sheets. 

“We believe one should look through the widespread ‘slowdown’ calls that are currently in vogue, and stay bullish on banks, mining, energy, insurance, autos, travel and telecoms,” Matejka and his team wrote noting, too, that market internals are “bullish again.”

Does this mean that markets are positioned for a near-term bounce? Let’s see.

Positioning: As noted last week, passive buying flows continue to persist alongside a drop in bearish sentiment readings and bond market outflow readings which “have actually lined up closer to bottoms in the equity market.”

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

This is as participants’ demand for protection (negative delta exposure) left dealers (on the other side and warehousing risk) adding negative delta exposure linearly (via stock and futures sales) to hedge.

To note, owning an option offers someone positive exposure to gamma or convexity (to have profits multiplied if the direction is correct, all else equal). On the other side, though, participants who are short gamma or convexity may have their losses multiplied if incorrect.

Making some naive assumptions on the build-in interest in options strikes at lower prices, we may surmise that dealers were exposed to increased negative gamma exposure. 

Graphic: Via Tier1Alpha. “Short Gamma Exposure -> Forces Option dealers to sell  -> Causes Higher realized volatility -> Triggering vol controlled funds to sell -> Forcing options dealers to de-risk/ and sell even more. rVol just keeps moving forcing vol control funds to sell even more.”

To hedge this, if volatility were to remain unchanged, dealers would sell (buy) into weakness (strength) to hedge increasing (decreasing) negative gamma exposure. 

If volatility rises (drops), then more stock and futures must be sold (bought/covered).

Graphic: Via Stretching Spreads. Customers indirectly taking liquidity through trading of options, in the face of a lower liquidity environment, results in more whipsaw, two-sided action. 

Moreover, Friday’s monthly options expiration (OPEX) coincided with the removal of lots of put-heavy exposures. This will decrease the dealers’ positive exposure to delta and make gamma exposures less negative.

Therefore, absent some exogenous event that increases demand for protection, again, there is the potential for strength, post-OPEX. Volatility compression would mark down dealer positive delta and therefore coincide with positive “vanna” flows that bolster attempts higher.

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 upper part of its overnight inventory, inside of prior-range and -value, suggesting a limited potential for immediate directional opportunity.

Gap Scenarios May Be 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 higher; activity above the $4,332.75 high volume area (HVNode) puts in play the $4,415.00 untested point of control (VPOC). Initiative trade beyond the VPOC could reach as high as the $4,438.00 key response area and $4,464.00 low volume area (LVNode), or higher.

In the worst case, the S&P 500 trades lower; activity below the $4,332.75 HVNode puts in play the $4,249.00 LVNode. Initiative trade beyond the LVNode could reach as low as the $4,212.50 regular trade low (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.

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

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.

Options: If an option buyer was short (long) stock, he or she would buy a call (put) to hedge upside (downside) exposure. Option buyers can also use options as an efficient way to gain directional exposure.

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 8, 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 were divergent and weighed by the tech- and growth-heavy Nasdaq 100. Most commodity and bond products were much weaker, also. 

This stocks down, bonds down dynamic points to a continued deleveraging. 

Notwithstanding, sideways after a fast move lower, is not a bad thing. It’s one of the better cases to have given certain mechanics with respect to the options market, for instance.

Ahead is data on international trade (8:30 AM ET) and real household debt (11:00 AM ET).

Graphic updated 6:20 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: Ranges, at the index level, have tightened markedly since the January sell-off culminating in a cross-market deleveraging cascade.

The situation is different at the single-stock level. There are a couple of factors behind this.

For one, ARK Invest’s Catherine Wood recently made an interesting point suggesting events of today are the exact opposite of the events leading into the tech-and-telecom bust.

“During the tech-and-telecom bubble, … investors were falling all over each other, trying to one-up each other, to get a bigger tech position, because tech in the indexes had moved to 35%. We saw many portfolios with 40%, 50% tech.”

Basically, Wood thinks that investors are dumping single-stocks for index exposure. The below data supports this.

“We think that decision is going to prove to be just as incorrect as the decision to move en masse in the late 90s.”

Graphic: Per Nasdaq, “we’ve seen patches of retail selling of stocks that have mostly lasted for less than a week (blue bars in Chart 2). Interestingly, ETFs (yellow bars) remained net buy every single day, albeit at lower levels than usual in the last week of January.”

There is also the increasing demand for positive delta (long) exposure in the indexes as participants hedge their negative delta (short) exposure in the single stocks.

Graphic: Via Bloomberg.

Then, there is also the supply and demand for options protection, at the index level. 

Mainly, the indexes are where the world will hedge and so the effects of dealers re-hedging their risks to decaying options protection provide markets a sort of passive buying support.

The S&P 500, which carries a more liquid derivatives complex and less exposure to tech- and growth-heavy constituents (when compared to the Nasdaq 100 and Russell 2000), appears stronger, but not as strong as the Dow Jones Industrial Average, a clear beneficiary of the rotation out of growth- and innovation-names to value- and cyclical-type stocks.

Graphic: Anchored Volume Weighted Average Price (VWAP) analysis via Physik Invest. Notice Dow Jones Industrial Average (bottom right) and S&P 500 (top left) strength, as well as Nasdaq 100 (top right) and Russell 2000 (bottom left) weakness. Key pivots marked off.

All the last-mentioned point is trying to make is the following: try hard enough and you’ll find an explanation for anything. 

Sometimes, though, a focus on the simplest of explanations (e.g., demand for assets that perform better in higher rate environments) may suffice in navigating volatility.

Going forward, despite many index heavy-weights reporting, the earnings season is set to accelerate over the coming weeks, and equity index futures traders have positioned themselves (as evidenced by tight, sideways trade) to react to new information accordingly.

Graphic: Via @MikeZaccardi. Retrieved from Callum Thomas.

Per JPMorgan Chase & Co (NYSE: JPM) strategists, the bull thesis remains intact. 

The pace of economic growth is to stabilize in 2022 and the Federal Reserve is unlikely to move further into the hawkish territory.

We’re “Continuously seeing gains for earnings. Consensus projections for 2022 will most likely prove too low again,” JPM explains. “P/E multiples are elevated, but not equity yields vs credit & bond yields. We expect further, mild and benign, P/E compression in 2022. Overall, the picture is favorable, post the recent de-risking.”

Graphic: Via The Market Ear. As money supply (which played a part in increased CPI figures) is slated to fall, there have been large outflows from Treasury Inflation-Protected Securities. @MacroAlf notes that these are some of the largest outflows “since the pandemic crash in March 2020. CPI might be 7% today, but markets are forward-looking.”

Positioning: Though markets will tend toward instability so long as volatility is heightened and products (especially the index constituents) remain in negative gamma, the dip lower and demand for protection may serve to prime the market for upside (when volatility starts to compress again and counterparties unwind hedges thus supporting any attempt higher).

Graphic: VIX term structure compresses markedly at the front end affecting most shorter-dated options more sensitive to the effects of direction and volatility.

“Failure to expand the range, lower, on the index level, at least, likely invokes supportive dealer hedging flows with respect to time (‘charm’) and volatility (‘vanna’),” SpotGamma adds.

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.”

Taking into account options positioning, versus buying pressure (measured via short sales or liquidity provision on the market-making side), metrics point to “[m]odest bullishness on the 1-month timeframe.”

Technical: As of 6:20 AM ET, Tuesday’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.

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 soon occur.

Monitor for acceptance (i.e., more than 1-hour of trade) outside of the 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 higher; activity above the $4,497.00 untested point of control (VPOC) puts in play the $4,526.25 high volume area (HVNode). Initiative trade beyond the HVNode could reach as high as the $4,555.00 VPOC and $4,586.00 RTH High (regular trade high), or higher.

In the worst case, the S&P 500 trades lower; activity below the $4,497.00 VPOC puts in play the $4,438.25 HVNode. Initiative trade beyond the $4,438.25 HVNode could reach as low as the $4,393.75 HVNode and $4,365.00 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.

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.

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.