Categories
Commentary

Daily Brief For March 7, 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 lower as participants looked to price in the implications of heightened inflation and risk of recession amidst geopolitical tensions.

Ahead is data on consumer credit (3:00 PM ET).

Graphic updated 5:45 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: Hawkishness with respect to monetary policy, in the face of heightened inflation and slowing economic growth, is affecting global markets.

Graphic: Via Bloomberg. European markets trade weak relative to their U.S. peers.

Overseas markets have sold more, relatively, and the pricing of equity market risk in Europe is far outpacing that in the U.S.

Graphic: Via Bloomberg. Divergences in the pricing of risk across markets.

Last week, we unpacked the potential factors behind (and the implications of) divergences in cross-asset volatility. Mainly, the fear in one market tends to feed into the fear of another.

Pursuant to those remarks on this push-and-pull comes as Goldman Sachs Group Inc’s (NYSE: GS) prime brokerage saw hedge-fund clients unloading risk at the fastest rate in three months, while JPMorgan Chase & Co (NYSE: JPM) saw retail buying nearly $4.1 billion, “with money sent to S&P 500-linked ETFs more than 2 standard deviations above the 12-month average.”

Graphic: Via JPMorgan, from Bloomberg.

Per Bloomberg’s John Authers, market professionals likely view reactions to geopolitical tension “as increasing the risk of stagflation, a rare combination of high inflation and a recession.”

Graphic: Via JPMorgan, from The Market Ear.

“This looks like 2007, on the eve of the Global Financial Crisis, with even higher inflation expectations and a yield curve that has not quite yet inverted.”

Graphic: Via Bloomberg. “[A]n outright inversion, which generally signals a recession a matter of months later, now seems an imminent possibility.”

UBS Group AG (NYSE: UBS) ran a machine-learning analysis that “reckons the Russia/Ukraine conflict could send the S&P 500 anywhere from 3,800 to 4,800 – a 26% range – depending on how it resolves.”

Graphic: Via UBS, from Bloomberg.

Perspectives: “Every other market is consistent with the idea that the economy is in trouble and there’s stress in the markets,” said Jim Bianco, president of Bianco Research LLC in Chicago. 

“The stock market historically does this — it’s the last market to turn, it’s the slowest market to understand the problems. It’s the market driven by narratives and hope.”

Graphic: Via @exposurerisk from @Callum_Thomas. “Slowly at first, then all of a sudden.”

Alternatively, BCA Research Ltd suggests that “Even if World War III is ultimately averted, markets could experience a freak-out moment over the next few weeks, similar to what happened at the outset of the pandemic. Google searches for nuclear war are already spiking.”

“Despite the risk of nuclear war, it makes sense to stay constructive on stocks over the next 12 months. If an ICBM is heading your way, the size and composition of your portfolio becomes irrelevant. Thus, from a purely financial perspective, you should largely ignore existential risk, even if you do care about it greatly from a personal perspective.”

Positioning: The fundamental picture is clouded by the options market positioning.

At present, in the face of continued passive buying support, the overwhelming demand for downside (put) protection (a negative delta, positive gamma trade) results in counterparty hedging that may exacerbate weakness.

The reason why? The counterparty has exposure to positive delta and negative gamma. If underlying prices print lower and/or measures of implied volatility rise (given increased fear and demand for protection), short puts rise in value (and counterparty losses are multiplied).

To overcome these potential losses, counterparties sell the underlying to hedge. If nothing happens, the protection decays, and counterparties buy back their hedges potentially bolstering the underlying market’s calmness or attempts higher.

As noted earlier and explained in detail last week, the pricing of risk across markets has diverged and the S&P 500, among other U.S. indices, is relatively strong (unlike peers in Europe and Asia). 

Among other things, one dynamic balancing this pressure from puts is negative-delta trade, by customers, on the call side. In selling calls, dealers are long (a positive delta, positive gamma trade that makes money if the underlying rises). To hedge, dealers tend towards selling strength and buying weakness, adding liquidity to the market. 

Still, again, the news is bad, and returns into monthly options expirations (like the one coming up next week) are often weak.

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

So, there is potential that weakness climaxes into the options expiration. Thereafter, the reduction in put-heavy positioning may coincide with less counterparty exposure to the positive delta.

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.”

Still, the return distributions, based on where the implied volatility term structure is at, point to continued chop and expanded ranges.

And, according to some, the “real deleveraging hasn’t hit yet.”

Graphic: Via @FadingRallies.

Technical: As of 5:45 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, 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 visual $4,282.75 balance boundary puts in play the $4,319.00 untested point of control (VPOC). Initiative trade beyond the VPOC could reach as high as the $4,346.75 high volume area (HVNode) and $4,375.00 VPOC, or higher.

In the worst case, the S&P 500 trades lower; activity below the $4,282.75 balance boundary puts in play the $4,249.25 low volume area (LVNode). Initiative trade beyond the LVNode could reach as low as the $4,227.75 overnight low (ONL) and $4,177.25 HVNode, or lower.

Considerations: The $4,282.75 level has solicited mechanical responses over the past weeks.

Therefore it is considered to be a level at which short-term participants will lack the wherewithal (both emotional and financial) to respond to a successful break.

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 January 14, 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!

Updates: Hi everyone! To start, I wanted to sincerely apologize for the below graphic being inaccurate, yesterday. Technology problems! I have since updated the graphic. My bad – egg on my face.

As always, for checks on quoted levels, and the like, just read on below. I try to build in as many redundancies to ensure we have the most information to trade on as possible.

If levels do not make sense, I assure you that they are either (A) updated in the attached real-time charts or (B) in the “Technical” section, below.

Feedback and questions are always encouraged/appreciated!

What Happened

Overnight, equity index futures rotated, lower, validating the end-of-day, knee-jerk price exploration. Commodities were mixed, bonds fell, and volatility was bid.

Ahead is data on retail sales and import prices (8:30 AM ET), industrial production and capacity utilization (9:15 AM ET), University of Michigan consumer sentiment figures and business inventories (10:00 AM ET), as well as some speech by New York Fed President John Williams (11:00 AM ET).

Note that in observance of Martin Luther King Jr. Day, markets will be closed on Monday, January 17.

There will be no commentary published, as a result.

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: Markets sold heavy, yesterday, on the heels of hawkish commentary from monetary policymakers. 

The Federal Reserve’s Lael Brainard said the central bank would be in a position to start hiking rates as soon as it wound down bond purchases. This is to happen in March. 

“The (Fed’s policy-setting) committee has projected several hikes over the course of the year,” Brainard said in testimony. 

“Of course, we will be in a position to do that I think as soon as our purchases are terminated, and we’ll simply have to see what the data requires over the course of the year, and you know we started to discuss shrinking our balance sheet.”

Graphic: Via The Market Ear, “balance sheet delta continues fading. The obvious question is, what is priced in?”

The Fed is moving more quickly to “save itself from having to hike too far and make rates so expensive that they slow down the economy.”

“We understand the Fed’s paralysis given the massive uncertainty coming out of the pandemic,” says Jim Bianco of Bianco Research. “However, the longer they wait to address inflation, the worse this conundrum will become.”

So, what’s the major concern with tightening and eventual balance sheet compression?

It has much to do with left-tail risks. Prevailing monetary frameworks and max liquidity promoted a large divergence in price from fundamentals. 

With expected monetary policy evolution, however, valuations are much less justifiable. Many institutions, as a result, see peaks in 2022, just as rate hikes are initiated.

Graphic: S&P 500 performance before and after rate hikes, via The Market Ear.

“The decline in stock prices is forecast to be orderly but it could turn into something worse,” Moody’s Corporation (NYSE: MCO) explains in reference to the growth of passive investing – the effect of increased moneyness among nonmonetary assets – and derivatives trading. 

“A drop in stock prices could trigger margin calls.”

Notwithstanding, as stated in the prior day’s, according to JPMorgan Chase & Co (NYSE: JPM) strategists, “[p]olicy tightening is likely to be gradual and at a pace, that risk assets should be able to handle, and is occurring in an environment of strong cyclical recovery.”

This is as Moody’s also notes that “there will still be a lot of excess liquidity—a little less than $1 trillion— when the central bank’s balance sheet does begin to decline.”

Note that over the next weeks, a focus will be the release of earnings, in the face of inflation, supply-chain challenges, and the like. We will cover this in later commentaries.

Positioning: Thursday’s trade did little to upset the narratives discussed in the “Positioning” section of this commentary over the past few days.

As stated, metrics that overlay options positioning and buying pressure (via short sales or liquidity provision on the market-making side) are positively skewed, albeit less so than before.

At the same time, we have trading desks suggesting “the conditions are not in place for a larger correction (>5%),” while volatility remains compressed, relatively so, at the index level.

Graphic: Upward sloping VIX term structure. Per Interactive Brokers Group Inc (NASDAQ: IBKR), “An inverted curve, or even a flattish one, indicates a shortage of available volatility protection. We saw that as recently as a month ago, but not now.” Still, short-dated implied volatility is bid and this is taking away from the supportive “vanna” flows you would expect with declining volatility.

For instance, SpotGamma’s (beta) Hedging Impact of Real-Time options indicator suggested S&P 500 options activity diverged, markedly, from what underlying prices were doing. 

This could mean that Thursday’s news-driven sell-off did not change the status quo. 

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

Obviously, elsewhere, in single stock land, conditions are different. Metrics suggest options were a contributing factor in the weakness of rate-sensitive names, yesterday.

This is as many products are in lower liquidity and short-gamma (wherein an options delta rises with stock prices rises and falls when stock prices drop) in which moves are more erratic.

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.

Therefore, coming into weighty options expiration, correlations may (continue to) be off (as that is the only reconciliation in an environment where, at the index level, hedging pressures are sticky, whereas elsewhere they aren’t).

After the large January monthly options expiration (OPEX), correlations ought to fall back in line.

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 middle part of a balanced skewed overnight inventory, just 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 $4,643.00 untested point of control (VPOC) puts in play the $4,674.25 high volume area (HVNode). Initiative trade beyond the HVNode could reach as high as the $4,691.25 micro composite point of control (MCPOC) and $4,715.00 VPOC, or higher.

In the worst case, the S&P 500 trades lower; activity below the $4,643.00 VPOC puts in play the $4,629.25 HVNode. Initiative trade beyond the HVNode could reach as low as the $4,593.00 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.

Considerations: Recent trade is more so dominated by visually-driven, weaker-handed momentum players that mechanically respond to key technical levels like the 20-day simple moving average or profile levels. 

Simply put, the other time frame participants are waiting for more information before committing to substantial expansion of range via large sales or buys.

Graphic: Despite selling, heavy, the S&P 500 is “sound” so to speak.

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.

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.

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.

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 12, 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, as well as most commodity, and bond futures were higher ahead of data releases on the Consumer Price Index (8:30 AM ET), Federal Budget, and Beige Book (2:00 PM ET), as well as Fed-speak by Neel Kashkari (1:00 PM ET).

Graphic updated 6:30 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: The focus, today, is whether or not the headline inflation rate tops 7%. 

Graphic: Inflation forecasts via Bloomberg.

This is as improvements in the U.S. labor market and increased hawkishness from the Federal Reserve (Fed) are playing into a recent rotation (into value) and broad market slump.

As stocks recover from their multi-day slump; Jerome Powell reassured investors, Tuesday, that the Fed would stem increasing inflation and shrink its balance sheet. 

“Hawkish Fed repricing is likely largely done for now,” and “resilient earnings should help equities rebound,” Barclays Plc (NYSE: BCS) strategists explained in a recent note. 

Graphic: Via @biancoresearch, “we are in a rare period when what the market has priced in is the outlier call.”

JPMorgan Chase & Co (NYSE: JPM) agrees. Equities should be able to withstand hikes and balance sheet runoff amidst above-trend growth and a rebound in some international markets.

“As long as yields are rising for the right reasons, including better growth, we believe that equities should be able to tolerate the move,” a JPMorgan note said. 

“The rise in real rates should not be hurting equity markets, or economic activity, at least until they move into positive territory, or even as long as real rates are below the real potential growth.”

In support of JPMorgan’s comments on real rates and growth, Sanford Bernstein outlines a bull case stating: “[H]istorically, when real yields normalized back to zero from negative levels, equities have had positive returns.”

As a bonus, per Ryan Detrick of LPL Financial, “Yes, the Fed will probably hike rates for the first time in a new cycle some time during the first half of 2022. Remember though, looking at the past 8 first hikes, stocks were higher a year later every single time.”

Graphic: S&P 500 performance post-hiking, via LPL Financial.

In opposition to the bull-narrative, Jim Bianco of Bianco Research puts it well: “So, if the bond market is having epic convulsions in the wake Fed printer getting turned off, do not take solace that the stock market ‘doesn’t get it.’ 

“This is how financial markets turn, the stock market often stays too long and turns last.”

Positioning: To keep things fresh, recall that in buying a put, for instance, customers indirectly take liquidity as the counterparties hedge short put exposure by selling underlying.

Higher implied volatility marks up options delta (exposure to direction) and this leads to more selling, as hedging pressures exacerbate weakness. Higher volatility, higher delta, more selling.

As implied volatility compresses, options delta (exposure to direction) is marked down. This leads to buying by the counterparty.

Per SpotGamma’s (unreleased) Hedging Impact of Real-Time Options indicator, over the past sessions, positive delta trade on the part of counterparties, as a result of customer put selling and call buying, has supported the near-vertical price rise from Monday’s lows.

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

As visualized, above, positive delta trade tapered off into the close, Tuesday, while S&P 500 prices continued higher. Interesting, right? Part of that rally has to do with volatility compression.

The VIX term structure remains upward sloping and volatility (via the INDEX: VIX) has fallen. As stated, above, compression marks options delta down and leads to buying by the counterparty.

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 middle part of a positively skewed overnight inventory, just 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 $4,717.25 low volume area (LVNode) puts in play the $4,732.50 high volume area (HVNode). Initiative trade beyond the HVNode could reach as high as the $4,756.00 LVNode and $4,779.00 untested point of control (VPOC), or higher.

In the worst case, the S&P 500 trades lower; activity below the $4,717.25 LVNode puts in play the $4,691.25 micro composite point of control (MCPOC). Initiative trade beyond the MCPOC could reach as low as the $4,674.25 and $4,647.25 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.

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 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 2021 FOMC

What Happened

Equity index futures are lower after Monday’s failed balance-area breakout in the S&P 500 had that index rotate to and through the opposite end of a multi-day consolidation, yesterday.

This trade is in the face of expectations the Federal Reserve (Fed) will accelerate the taper to bond-buying, clearing the way for interest-rate hikes

Rising rates, among other factors, have the potential to decrease the present value of future earnings, thereby making stocks, especially those that are high growth, less attractive

The ruling narrative, so to speak, has resulted in the selling of expensive areas of the market.

Ahead is retail sales, import prices, and Empire State Manufacturing Index (8:30 AM ET) data. 

Then there are releases on the NAHB Home Builders’ Index, business inventories, inventory-sales ratio (10:00 AM ET). Later is a Federal Open Market Committee (FOMC) announcement (2:00 PM ET) and press conference (2:30 PM ET).

Graphic updated 6:25 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

According to SpotGamma, into this week, participants had been increasing their short-delta exposure (via a lot of call selling and a bit of put buying). 

This resulted in dealers selling (buying) futures into strength (weakness), a dynamic that promotes consolidation.

Later, as participants positioned for the FOMC event, demand for protection expanded and the S&P 500 made it to and through the low-end of the consolidation against the $4,700.00 high activity options strike. 

The trade built out areas of high volume (HVNode) via the cave-fill process in locations where prior discovery left weak structure – gaps and p-shaped emotional, multiple distribution profile structures (i.e., old-money covering shorts).

As evidenced by the divergent delta, below, responsive buyers surfaced at a key volume-weighted average price (VWAP) level (near $4,600.00 S&P 500), at which liquidity algorithms are benchmarked and programmed to buy and sell.

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 attempting in balance).

At the same time, as SpotGamma (beta) Hedging Impact of Real-Time Options (HIRO) indicator suggested “participants saw lower prices as an opportunity to express their opinion of lower volatility into Wednesday’s Federal Open Market Committee (FOMC) update.”

Graphic: SpotGamma’s Hedging Impact of Real-Time Options (HIRO) indicator, which is pink in color, was sideways to higher. This suggests positive options delta trades likely had dealers buying stock/futures into the close.

Context: Today, we get clarity from the Fed.

The expectation is that the asset purchases are scaled back by $30 billion per month versus the expected $15 billion. In doubling the pace of the taper to bond-buying, the odds of earlier rate hikes increase markedly.

“If the Fed does not address inflation soon, they risk long rates shooting much higher,” says Jim Bianco of Bianco Research.

“But if they follow the market’s lead in aggressively hiking rates, they risk hurting the economy. We understand the Fed’s paralysis given the massive uncertainty coming out of the pandemic. However, the longer they wait to address inflation, the worse this conundrum will become.”

Notwithstanding, today’s rates are supporting validations better than in the ‘90s.

At the same time, equity markets tend to rally into the first hike; Moody’s Corporation’s (NYSE: MCO) forecast aligns with that – “the Dow Jones Industrial Average increases this quarter and peaks in early 2022, … [followed by] steady decline through 2022.”

Graphic: S&P 500 performance before and after rate hikes.

Immediate risks, though, remain. 

There are growing pockets of weakness – as evidenced by divergent breadth – in the face of U.S. stocks’ inflation-adjusted earnings yield turning negative.

Similarly, participants are more exposed to leveraged products, among other things, which increases the speed with which volatility is realized.

“One potential catalyst would be an explosion in the value of margin accounts at brokers and dealers, which amounted to $595 billion in the second quarter, nearly double the pre-pandemic level. A drop in stock prices could trigger margin calls.”

So despite “natural, passive buying support” and positioning metrics flashing a buy, as well as expectations of “the strongest quarterly nominal [economic] growth in more than three decades,” offsides positioning may prompt a reaction that exacerbates underlying price movements.

So what? The market is in a positive-gamma environment wherein the counterparties to customer options trades add market liquidity and temper realized volatility.

If participants’ monetary policy fears are assuaged, a collapse in event-related implied volatility ought to bring positive flows as the long delta (from dealers’ exposure to short puts) decreases.

The decrease in dealer supply (short delta) post-FOMC and -OPEX, via the covering of short stock/futures hedges to put-heavy positioning, ought to bolster any attempt higher.

That’s not to say that some of the vulnerabilities like participants’ large exposure to leveraged products (which increases the speed with which volatility is realized) couldn’t prompt a round of destabilizing demand for downside protection.

Graphic: The “Biggest tail risk to SPX isn’t any macro data/virus/war but its own options market.”

Though order book depth “in isolation is not the correct method to gauge liquidity,” it can help in roughly assessing participants’ demand/supply as volatility (and stress, by that token) increases.

Graphic: Analysis of book depth for the E-mini S&P 500 futures contract, via CME Group Inc’s (NASDAQ: CME) Liquidity Tool. For more on the implications of participants’ options positioning and dealer hedging, read here.

Already, according to Bloomberg, some participants are positioning for “a seasonably favorable period for stocks” in 2021; “someone purchase[d] roughly 20,000 call spreads that are linked to the S&P 500 and expire right before the Christmas holiday. The transaction involved selling calls with a strike price at 4,750 to fund bullish options exercisable at 4,650.”

Graphic: S&P 500 finds support in area between the 20- and 50-day simple moving average. The aforementioned bullish “call spread” trade expiring before the Christmas holiday is included.

Expectations: As of 6:25 AM ET, Wednesday’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 sideways or higher; activity above the $4,618.75 high volume area (HVNode) puts in play the $4,647.25 HVNode. Initiative trade beyond the latter could reach as high as the $4,657.00 balance area low (BAL) and $4,674.25 HVNode, or higher.

In the worst case, the S&P 500 trades lower; activity below the $4,618.75 HVNode puts in play the $4,596.25 regular trade low (RTH Low). Initiative trade beyond the RTH Low could reach as low as the $4,581.00 and $4,523.00 untested point of control (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.

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.

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 13, 2021

What Happened

Overnight, most equity, commodity, and bond futures were higher.

This comes ahead of the weighty December 17 options and futures expiration – “quad witching” – large portfolio rebalances, and an update to Federal Reserve (Fed) policy, December 15.

Ahead, today, there are no key economic releases scheduled.

Graphic updated 6:15 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

On lackluster breadth and supportive market liquidity metrics, the best case outcome occurred, evidenced by an expansion of range, Friday, followed by a gap out of balance, Sunday.

Graphic: SpotGamma’s (beta) Hedging Impact of Real-Time Options (HIRO) indicator suggested participants were buying (or covering short) calls and selling put options, into the close. S&P 500 prices followed as dealers added to their long-delta hedges.

Context: As fears of a COVID-19 resurgence are assuaged, in the face of U.S. job growth that fell short of expectations, per Bloomberg, the Fed ought to move more quickly to “save itself from having to hike too far and make rates so expensive that they slow down the economy.”

The expectation is that the Fed scales asset purchases by $30 billion per month versus the expected $15 billion. In doubling the pace of the taper to bond-buying, the odds of a rate hike happening as early as next June increase markedly. 

“If the Fed does not address inflation soon, they risk long rates shooting much higher,” says Jim Bianco of Bianco Research.

“But if they follow the market’s lead in aggressively hiking rates, they risk hurting the economy. We understand the Fed’s paralysis given the massive uncertainty coming out of the pandemic. However, the longer they wait to address inflation, the worse this conundrum will become.”

Rising rates, among other factors, have the potential to decrease the present value of future earnings, thereby making stocks, especially those that are high growth, less attractive.

Despite today’s rates supporting validations better than in the ‘90s, an intent to reduce stimulus serves as a headwind.

That said, equity markets typically rally into the first hike; Moody’s Corporation’s (NYSE: MCO) “forecast is that the Dow Jones Industrial Average increases this quarter and peaks in early 2022, … [followed by] steady decline through 2022.”

Graphic: S&P 500 performance before and after rate hikes, via The Market Ear.

Prevailing monetary frameworks and max liquidity promoted a large divergence in price from fundamentals; the growth of passive investing – the effect of increased moneyness among nonmonetary assets – and derivatives trading imply a lot of left-tail risks.

Graphic: As U.S. stocks’ inflation-adjusted earnings yield turns negative, as seen near the peak of the tech bubble, via Bloomberg, “Investors in the Nasdaq increasingly seem to think that only a few companies have much of a chance. With a growing possibility of more aggressive attempts to prosecute antitrust issues, that’s a riskier position than it appears.”

Adding, the Fed, too, is seeing vulnerabilities in asset prices.

“The decline in stock prices is forecast to be orderly but it could turn into something worse,” Moody’s explains. 

“One potential catalyst would be an explosion in the value of margin accounts at brokers and dealers, which amounted to $595 billion in the second quarter, nearly double the pre-pandemic level. A drop in stock prices could trigger margin calls.”

Margin calls happen when customers owe money to their brokerage firm; “If there is no money, investors have to sell other assets.”

Putting it simply, participants are more exposed to leveraged products, among other things, which increases the speed with which volatility is realized.

So despite positioning metrics flashing a buy, and expectations of “the strongest quarterly nominal [economic] growth in more than three decades,” offsides positioning may prompt a cascading reaction that exacerbates underlying price movements.

Short-term, however, aside from the presence of “natural, passive buying support,” the market is in a positive-gamma environment wherein the counterparties to customer options trades add market liquidity and temper realized volatility.

Graphic: “[N]atural, passive buying support,” coupled with strong put flows results in positive return distribution. Data via SqueezeMetrics. Graph via Physik Invest.

If participants are further assuaged of their fears at this week’s Federal Open Market Committee (FOMC) meeting, a collapse in event-related implied volatility ought to bring in positive flows as the long delta (from dealers’ exposure to short puts) decreases.

The decrease in dealer supply (short delta), via covering of short stock/futures hedges, would bolster any attempt higher.

Expectations: As of 6:15 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 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 sideways or higher; activity above the $4,717.25 low volume area (LVNode) puts in play the $4,732.50 high volume area (HVNode). Initiative trade beyond the HVNode could reach as high as the $4,740.50 minimal excess and $4,767.00 extension, or higher.

In the worst case, the S&P 500 trades lower; activity below the $4,717.25 LVNode puts in play the $4,705.25 LVNode. Initiative trade beyond the LVNode could reach as low as the $4,690.25 MCPOC and $4,674.25 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. 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.

Excess: A proper end to price discovery; the market travels too far while advertising prices. Responsive, other-timeframe (OTF) participants aggressively enter the market, leaving tails or gaps which denote unfair prices.

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.