Categories
Commentary

Daily Brief For June 29, 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 traded sideways-to-lower, keeping intact the bearish tone from yesterday. Commodities were mixed. Bonds, the dollar, and implied volatility were bid.

At a micro-level, the selling was not similar to that of past market turmoil events. Instead, stocks were sold, but on the back of tame and steady volumes. Adding, the market’s responsiveness to key visual areas may mean that participants with shorter time horizons are more active, pointing to the potential that those with larger horizons are waiting for better entry or more information.

In terms of the news, similar to yesterday, narratives remain uninspiring. The key is that there are signs that inflation may soon turn the corner, as discussed in yesterday morning’s letter. In accordance with that perspective are comments by trader and macro strategist Andy Constan, who this letter’s author spoke with last week and will share insights extracted, below.

Ahead is data on GDP (8:30 AM ET), as well as talks by Federal Reserve (Fed) and European Central Bank (ECB) officials (9:00 AM ET, 11:30 AM ET, and 1:05 PM ET).

Graphic updated 6:40 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

Perspectives: This letter’s objective is to provide salient information one may use in developing a tradeable narrative. Today, we’re taking a different approach and adding some diversity to the format by threading important points from the conversation Physik Invest’s Renato Capelj had with trader and macro strategist Andy Constan, the CEO and CIO of Damped Spring Advisors.

Without further ado, here it is.

The University of Pennsylvania alumnus had his start in finance in the 1980s when he joined Salomon Brothers. There, he excelled quickly and was the “go-to for questions.”

At one point, Salomon tapped Constan for his assistance with the 1987 stock market crash where he learned more about self-reinforcing market strains and how dynamic hedging processes may manifest market volatility.

Constan, later, managed Salomon’s derivatives operations, as well as the sale of those services. He said a lot of his success, in those years, was owed to making “everything systematic” and “operat[ing] with a framework.”

He, then, spent some time at Ray Dalio’s Bridgewater Associates where he was key in the firm’s research on volatility as an asset class. The lesson Bridgewater instilled was to “spend time finding the persistent trade,” parameterizing and executing, accordingly.

The alpha stream from the capture of that systemic edge is an asset itself.

Through the decades of experience, Constan eventually pivoted after recognizing that edges built on top of relative value (RV) – “the capture of inefficiencies generated from some form of concentrated positioning that pushes assets out of whack” – would fail on macro happenings.

Most noteworthy were Constan’s comments on the market’s de-rate

As we’ve talked about in this letter in the past, for decades monetary policies were the go-to instrument for stimulation. This money stocked a technological revolution, bolstered the supply of goods, and, by that token, promoted deflation, which was kept at bay by rising asset prices.

Trends in the geopolitical climate, a focus on fiscal stimulation, as well as supply chokepoints, have stoked goods and services inflation. The commitment to addressing inequality, as well as misallocations of capital through a tightening of liquidity and credit has consequences on the economy and asset prices, which are highly connected given multi-decade trends.

Stemming inflation, via supply-side economics, alone, is folly, as explained in the article. Trends like de-globalization are destructive to prosperity.

“The most destructive things to future prosperity are the tendencies that have developed over the last five years, like Brexit, the border wall, and the war in Ukraine. Comparative advantages, which globalization is essential for, generates uninsured supply chains and now we’re spending money on insurance.”

As the article explains, at its core, prices are set by the equilibrium between the supply and demand for goods. Both are not in line, and the stimulative monetary policies that helped keep the supply-side in check are not on the table, all the while supply chain replication is not adding to production.

Though that’s inflationary, political gridlock is a dampener on the trend.

What about the more pressing matter? Are we in a recession? 

The simple answer is yes, and 2022 is likely to be a 1% total GDP year with a 4% inflation rate. That said, an equity market recovery is not off the table.

We’re in a recession — a period of modestly to significantly below-trend growth — and the fiscal side would have to not force the Fed to do more by having a large spending bill which would hurt markets in a meaningful way.”

On the expression of opinions, Constan’s preferred method is to use defined risk options trades structured around his macro theses two to four months out in maturity. 

If volatility is rich, he will lean on selling credit. If volatility is cheap, he will opt to buy spreads. 

“I want deltas and leverage. My macro indicators give me an edge on price and in the worst case, the loss is limited to 10%, if everything has to go against me all at once. I can be 100% invested and only risk 10%.”

Read Full-Text: Former Bridgewater Associate Talks Recession Odds, Capturing A Macro Edge

Follow Andy Constan on Twitter, here.

Positioning: Little has changed. The volatility that the markets are realizing (RVOL) is high and, at times, in excess of that implied (IVOL). 

To cut to the chase, there’s a “higher starting point” in IVOL, and a still-present right-tail (from the positioning for a bear market rally).

Graphic: Taken by Physik Invest from Interactive Brokers Group Inc (NASDAQ: IBKR) on 6/24/2022. Multi-expiry skew in the Invesco QQQ Trust Series 1 (NASDAQ: QQQ). Notice the v-shape in the shorter maturity and smirk in the longer maturity. Here’s what that means.

Both make it so we may, for zero or no cost, trade short-dated structures with asymmetric payouts.

Read: Trading Volatility, Correlation, Term Structure and Skew by Colin Bennett et al. Originally sourced via Academia.edu.

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 (the inverse of a back spread).

Technical: As of 6:30 AM ET, Wednesday’s regular session (9:30 AM – 4:00 PM ET), in the S&P 500, will likely open in the lower part of a negatively skewed overnight inventory, 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 $3,821.50 LVNode puts in play the $3,836.25 ONH. Initiative trade beyond the ONH could reach as high as the $3,883.25 LVNode and $3,909.25 MCPOC, or higher.

In the worst case, the S&P 500 trades lower; activity below the $3,821.50 LVNode puts in play the $3,793.25 Ledge. Initiative trade beyond the Ledge could reach as low as the $3,770.75 and $3,735.75 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.

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

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

What People Are Saying

Definitions

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

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

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

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
Commentary

Daily Brief For June 27, 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 and commodity futures were higher while bonds were lower. Volatility measures were bid, too.

In the news is Russia’s default on foreign debts. Quarterly repositioning may bolster attempts higher, per JPMorgan Chase & Co (NYSE: JPM), while Morgan Stanley (NYSE: MS) strategists see the potential for lower with base cases calling for a soft economic landing.

Ahead is data on goods orders (8:30 AM ET) and pending home sales (10:00 AM 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: Very short, today.

Later this week, I’m excited to share some insights I gleaned from a veteran trader and macro strategist. As a preview, this person thinks that we are in a recession. However, a recovery in equity markets is not off the table with 2022 likely being a 1% total GPD year with 4% inflation.

Stay tuned for that.

Positioning: We’ve been speaking on the demand for protection and the still-strong supply of it lending to tameness in Wall Street’s preferred “fear gauge,” relative to those gauges tracking markets like rates and commodities.

Graphic: Via Bloomberg.

“The current behavior is playing out similar to the 2000-2002 dot-com bear market, with no big sudden shocks but sustained high realized volatility,” explained Talal Dehbi of PrismFP.

Graphic: Via Goldman Sachs Group Inc (NYSE: GS).

Options data and insights platform SqueezeMetrics explained that this is due in part to lower leverage, too.

“Leveraged long S&P lost favor (understandable), and marginal demand for puts went with it. Creeping into net selling territory is ‘smart’ bear market positioning. Short delta, short skew.”

Graphic: Via SqueezeMetrics.

Anyways, noteworthy is the sale of short-dated volatility, and this has played into generally poor performance in skew. In light of that, it makes sense to lean toward owning volatility, rather than selling it.

Graphic: Via TradingView. Taken by Physik Invest. The Cboe VVIX Index (INDEX: VVIX), the expected volatility of the 30-day forward price of the VIX, or the volatility of volatility (a naive but useful measure of skew), was very depressed, too, in comparison to the VIX, itself.

The note to point out, here, is – and this is in accordance with some very recent notes – that a “higher starting point” in IVOL, and a still-present right-tail, makes it so we may position, for less cost, in shorter-dated spread structures with attractive and asymmetric payouts.

Graphic: Taken by Physik Invest from Interactive Brokers Group Inc (NASDAQ: IBKR). Multi-expiry skew in the Invesco QQQ Trust Series 1 (NASDAQ: QQQ). Notice the v-shape in the shorter maturity and smirk in the longer maturity. Here’s what that means.

Heading into the end of the quarter is the expected rollover of large options positions. These are hedges to customer long-equity exposure, which the liquidity providers are short. A front-running of this repositioning flow is (and is expected), in part, to add to the equity market upside.

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.”

Per SpotGamma, after expiration, “it is more likely the [bearish] tone [all else equal] remains unchanged at least from a positioning perspective,” albeit many metrics appear a tad stretched.

Graphic: Via JPMorgan Chase & Co (NYSE: JPM). Taken from Callum Thomas’ Weekly S&P 500 ChartStorm.

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 positively 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 $3,943.25 HVNode puts in play the $3,982.75 LVNode. Initiative trade beyond the LVNode could reach as high as the $4,016.25 HVNode and $4,055.25 LVNode, or higher.

In the worst case, the S&P 500 trades lower; activity below the $3,943.25 HVNode puts in play the $3,909.25 MCPOC. Initiative trade beyond the $3,909.25 MCPOC could reach as low as the  $3,889.00 VPOC and $3,821.50 LVNode, or lower.

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

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

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

Definitions

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.

Also, MCPOCs 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 June 15, 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

The calm before the storm.

Overnight, equity index futures auctioned sideways, inside of a developing balance area. The S&P 500 was glued to the area above $3,700.00.

The Treasury rout cooled. T-Note (FUTURE: /ZN) and T-Bond (FUTURE: /ZB) futures were off their lows. Per Bloomberg, the sell-off in fixed income wiped nearly $10 trillion of value in global bonds, erasing post-Pandemic gains on stimulative central bank intervention.

This letter has talked about the bonds and equities down phenomenon before. It is the shifting in priorities at the policy level – from monetary to fiscal – driving (more) positive correlations.

Abroad, the slump solicited the attention of policymakers. The European Central Bank (ECB) said it would have an emergency meeting to discuss current market conditions. Policymakers are to sign off on the reinvestment of bond purchases conducted during the pandemic.

In other news, the American Petroleum Institute issued policies to unleash American energy and fuel recovery. The U.S. rebuffed China by calling the Taiwan Strait an international waterway as CEOs urge the U.S. Congress to pass a China competition bill. More news of layoffs hit the wire also. Coinbase Global Inc (NASDAQ: COIN) will lay off 18% of its workforce, alongside many other crypto companies. 

Elsewhere, Redfin Corporation (NASDAQ: RDFN) and Compass Inc (NYSE: COMP) are laying off workers, as are automotive manufacturers.

Ahead is a packed calendar. To be released is data on retail sales, import prices, and manufacturing (8:30 AM ET). Later is data on home building and inventories (10:00 AM ET).

Key is the Federal Open Market Committee (FOMC) statement, projections, and news conference (2:00 PM ET).

Graphic updated 6:30 AM ET. Sentiment Neutral if expected /ES open is inside of the prior day’s range. /ES levels are derived from the profile graphic at the bottom of the following section. Levels may have changed since initially quoted; click here for the latest levels. SqueezeMetrics Dark Pool Index (DIX) and Gamma (GEX) calculations are based on where the prior day’s reading falls with respect to the MAX and MIN of all occurrences available. A higher DIX is bullish. At the same time, the lower the GEX, the more (expected) volatility. Learn the implications of volatility, direction, and moneyness. SHIFT data used for S&P 500 (INDEX: SPX) options activity. Note that options flow is sorted by the call premium spent; if more positive, then more was spent on call options. Breadth reflects a reading of the prior day’s NYSE Advance/Decline indicator. VIX reflects a current reading of the CBOE Volatility Index (INDEX: VIX) from 0-100.

What To Expect

Fundamental: Let’s keep it short and to the point.

As talked about, yesterday, the FOMC is expected to raise rates by 75 basis points in light of new data. Per Bloomberg, “Powell will argue that a supersized move is needed to preempt inflation expectations from unanchoring.”

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

The peak in rates is somewhere in the 3.75-4.00% range out in early-to-mid 2023. Into that date range, there is a 100% the Fed will hike.

Graphic: Via Federal Home Loan Mortgage Corporation (OTC: FMCC). “The housing market is incredibly rate-sensitive, so as mortgage rates increase suddenly, demand again is pulling back.”

On the quantitative tightening (QT) side of things, which is the direct (out) flow of capital from capital markets, the Fed will stop reinvesting the proceeds of maturing Treasuries for the first time since the start of quantitative easing (QE).

Per the Financial Times, in May, FOMC members agreed to cap their monthly balance-sheet run-off at $30 billion in U.S. Treasuries (UST) and $17.5 billion for agency mortgage-backed securities (MBS). 

This will have an effect on prices “as liquidity – the ease with which investors can buy and sell assets – deteriorates as markets grapple with a larger amount of bond supply to absorb.”

Moreover, in the recent sale of bonds, liquidity was “worse than it was leading up to Lehman,” and, accordingly, this has played into repo dislocations.

“As customers sell their position to dealers, there’s limited liquidity in the off-the-run markets so the dealers short-sell currents,” Scott Skyrm of Curvature Securities says on increased buys and sells leading to more settlement activity, which plays into more fails.

“Market participants reduce their investments and leverage and go into ‘cash,’ leaving more actual cash in the repo market.”

Therefore, Treasury securities, across all tenors, have traded below the rate on overnight general collateral repurchase agreements. 

This could “be a sign of another shortage of collateral and that another systemic risk event might come up in the future,” as Fabian Wintersberger well explained in his newsletter.

Graphic: Via Fabian Wintersberger. Data from Bloomberg. 

Wintersberger adds: “All those things suggest that the storm we are currently facing in markets is just the beginning. The war in Ukraine, a rising interest rate environment, energy costs that subdue the outlook for the real economy, and finally, signals of stress in financial markets imply that there might be tough times ahead.”

Positioning: The divergence in volatility implied (IVOL) by participants’ options activity, versus that which the market realizes (RVOL) was resolved.

Graphic: Taken by Physik Invest from Interactive Brokers Group Inc (NASDAQ: IBKR).

As I wrote in my commentary for options data and analysis platform SpotGamma, yesterday, pursuant to remarks made in Physik Invest’s recent letters, volatility repriced and that was a boon for participants who bought into the implied skew convexity idea.

Graphic: Taken by Physik Invest from Interactive Brokers Group Inc (NASDAQ: IBKR).

Moreover, $3,700.00 SPX is a key level, per SpotGamma. This is because there is sizeable interest at that level expiring June 17, after FOMC. These options have little time to expiry and, thus, their gamma (options sensitivity to direction) grows rather large, at near-the-money strikes.

Graphic: Text taken from Exotic Options and Hybrids: A Guide to Structuring, Pricing and Trading. 

In theory, we see participants as owning protection against their stock exposures. Therefore, the counterparties are short puts (positive delta) and short stock or futures (negative delta).

As the time to expiry narrows, above the strike in question delta decays, and counterparts buy back their static delta hedges. 

As the time to expiry narrows, below the strike in question delta expands and counterparts sell more static delta to hedge.

Graphic: Text taken from Exotic Options and Hybrids: A Guide to Structuring, Pricing and Trading.

That means, depending on what happens with FOMC, if below $3,700.00, associated hedging, less any new reach for protection would pressure markets lower. If above $3,700.00, hedging, less any new sale of protection, would bolster markets higher.

Graphic: Taken by Physik Invest from Interactive Brokers Group Inc (NASDAQ: IBKR).

If lower, all else equal, the June 17 options expiration will coincide with the removal of the in-the-money options exposures in question. This opens a window during which markets may have less pressure to rally against.

Technical: As of 6:30 AM ET, Wednesday’s regular session (9:30 AM – 4:00 PM ET), in the S&P 500, will likely open in the lower part of a positively 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 $3,768.25 HVNode puts in play the $3,808.50 HVNode. Initiative trade beyond the $3,808.50 HVNode could reach as high as the $3,836.25 LVNode and $3,863.25 LVNode, or higher.

In the worst case, the S&P 500 trades lower; activity below the $3,768.25 HVnode puts in play the $3,727.75 HVNode. Initiative trade beyond the $3,727.75 HVNode could reach as low as the $3,688.75 and $3,664.25 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. Updated: 6/14/2022.

Definitions

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 14, 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 sideways-to-higher, along with bonds, snapping the pricing in of tighter monetary policies and economic slowing.

Creeping up are expectations regarding the amount of tightening policymakers are to add. Treasury yields had their biggest jump in decades. U.S. 3-year Treasury yields, in particular, were up 25 basis points, to 3.49%, the highest since 2007, per Bloomberg.

Now, traders see nearly 200 basis points of tightening by the Federal Reserve’s (Fed) by September, as well as the possibility of a one-off 75 basis point hike. The overnight rate is expected to peak near 4% by mid-2023.

Accordingly, the U.S. and European real estate values have taken a hit amid rising rates and inflated prices, falling 5-10%. Rental demand has thinned, also. 

In other news, the U.S. sought to boost supplies of Russian fertilizer as “sanctions fears have led to a sharp drop in supplies, fueling spiraling global food costs.”

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: In what seems to be “a coordinated attempt to guide the market through trusted journalists,” recent updates on the path of inflation may push policymakers to surprise markets.

Graphic: Via Tier1Alpha. “A disappointing CPI suggested that calls for inflation peaks were premature and now markets are trying to interpret Powell’s (and Lagarde’s) true intentions.”

Markets reacted, accordingly, pricing in a near-certainty of a 75 basis point hike, later this week.

Graphic: Graphic: Via CME Group Inc’s (NASDAQ: CME) FedWatch Tool. In one session, participants priced in a near-certainty of a 75 basis point hike.

Looking into the future, Fed Funds target rates, based on the Fed Fund futures contract prices, are projected to peak into the mid-next year (Spring/Summer 2023).

Graphic: Via CME Group Inc’s FedWatch Tool

Accordingly, Treasury market turmoil continued with liquidity “worse than it was leading up to Lehman,” says Christian Hoffman, a portfolio manager for Thornburg Investment Management.

“That creates even more risk because if the market doesn’t have liquidity, it can gap down very quickly.”

Graphic: Via Bloomberg. Taken from @DonutShorts. This could “be a sign of another shortage of collateral and that another systemic risk event might come up in the future,” as Fabian Wintersberger well explained in his newsletter.

As talked about in past newsletters, pressures in the financial system, all the while the economy is slowing, are rising. This is amidst a dash for cash as fixed income and equity markets are not perceived to be as safe.

Graphic: Via Bloomberg. “Two-year US Treasury yields surged 29 basis points as bond prices tanked, … the biggest two-day increase since 2008, a sign of just how rapidly traders are adjusting where they think the Federal Reserve will take interest rates.”

“People are trying to process what’s behind these large moves,” Subadra Rajappa, head of U.S. rates strategy at Societe Generale SA (OTC: SCGLY), said. She attributes some of the volatility to poor liquidity, panic selling, and margin calls.

Ultimately, according to Bloomberg’s John Authers, this is a tantrum the Fed is likely to let “rip for a while” before, potentially, suffocating “with more easy money.”

“The relationship between central banks and bond markets is, as I’ve said before, a lot like that between a parent and an angry toddler. Indulging the bond market early last year might prove a critical mistake in losing parental authority for the Fed.”

Graphic: Via Morgan Stanley (NYSE: MS). Taken from The Market Ear. MS’s Mike Wilson says: “From our vantage point, both rates and ERP appeared to be mis-priced [and] we think the S&P 500 is headed toward 3,400 before a more tradable low is in.”

Positioning: Last night, as I wrote a report for SpotGamma’s subscribers, noteworthy is how “subdued” volatility was with, recently, “realized outpacing that which is implied by participants’ options activity.”

That dynamic resolved, Monday, as implied (IVOL) finally retook that which is realized (RVOL).

Read, also, the Daily Brief for Monday, June 13, 2022.

Graphic: Via Robson Chow.

Moreover, for much of the session, the equity markets were range-bound as most of the movement in both equity and volatility markets happened overnight. 

Graphic: SpotGamma’s Hedging Impact of Real-Time Options (HIRO) indicator for ES (SPX + SPY). Via SpotGamma, “Into weakness, participants mainly sold puts (a bullish trade). Into strength, they bought puts (a bearish trade). Throughout the session, too, there was light call buying (a bullish trade). This helps with understanding why the VIX moved much less during the day session.”

Noteworthy, was the absence of demand for protection that performs non-linearly with respect to changes in direction (delta) and volatility (vega).

“Fixed strike vols actually caught a bid, VIX futures are in backwardation,” The Ambrus Group’s Kris Sidial explains.

“However, that spot-vol relationship in the S&P still underperformed and skew was also lackluster.”

Graphic: Via TradingView. Taken by Physik Invest. The Cboe VVIX Index (INDEX: VVIX), the expected volatility of the 30-day forward price of the VIX, or the volatility of volatility (a naive but useful measure of skew), remains depressed, too, in comparison to the VIX, itself.

As said before, it is supply and demand dynamics that played into divergences between the volatility that the market realizes (RVOL) and that which is implied (IVOL). Participants are hedged and volatility remains well-supplied.

Was there to be forced selling and demand for protection en masse, we’d likely see that repricing in volatility we have been looking for.

To quote Benn Eifert of QVR Advisors: “Skew goes up if vol outperforms the skew curve a lot on a selloff.”

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

And so, to position for that, (although it is not as opportune as it was a week ago), it continues to make sense to own 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).

Notwithstanding, per SpotGamma, a lower bound in the market is near $3,700.00. It is at this level options flows may shift from “inducing” to “reducing” volatility as, “beneath this level, all else equal, liquidity providers would have less and less pressure to add on further weakness.”

Ultimately, it is at higher levels of volatility that the marginal impact of further volatility compression is likely to do more to bolster equity market upside as liquidity providers buy back their negative delta hedges to positive delta (short put) exposures. 

SpotGamma’s founder, Brent Kochuba, adds: “Ultimately this expiration is clearing out a lot of equity put protection, which clears the way for lower lows in the weeks and months ahead.”

Technical: As of 6:30 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 positively 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 $3,768.25 HVNode puts in play the $3,808.50 HVNode. Initiative trade beyond the $3,808.50 HVNode could reach as high as the $3,836.25 LVNode and $3,863.25 LVNode, or higher.

In the worst case, the S&P 500 trades lower; activity below the $3,768.25 HVnode puts in play the $3,727.75 HVNode. Initiative trade beyond the $3,727.75 HVNode could reach as low as the $3,688.75 and $3,664.25 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.

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 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 27, 2022

The Daily Brief will be on pause till June 7, 2022, due to the author’s travel commitments. Apologies for this inconvenience.

What Happened

Overnight, U.S. equity index futures came off of their Thursday peaks before, late in the morning, trading to a new rally high, at which is a confluence of technical nuances.

Thursday’s cash session was characterized by a near-vertical advance into mid-day. Then, trade became two-sided, a feature of short-covering and not new buying. More on this, later.

In the news was Citigroup Inc’s (NYSE: C) downgrading of U.S. stocks on recession risks and the “elements of a deflating bubble,” while leaning optimistic on China assets due to marginal policy support, there. This is on the heels of similar conclusions put forward by BlackRock Inc (NYSE: BLK) and Morgan Stanley (NYSE: MS).

Mortgage rates staged their biggest drop since April of 2020 as “the housing market has clearly slowed, and the deceleration is spreading to other segments of the economy,” the Federal Home Loan Mortgage Corporation’s (OTC: FMCC) Sam Khater explained.

In other news, Secretary of State Antony Blinken took aim at China, commenting on the U.S.’s intention to “shape the strategic environment around Beijing to advance [its] vision for an open, inclusive international system.” This is as the U.S. also plans economic talks with Taiwan.

Pippa Malmgren, who is a former White House adviser and economist we wrote on earlier this week, discussed more of this decoupling and coordination among Eastern and Western powers.

In a two-part series, she explains the challenging of U.S. island bases by China and Russia, as well as their maritime strategies, “island hopping [and] shopping.” Check them out.

Today we received data on PCE inflation, real disposable and personal income, along with consumer spending and trade in goods (8:30 AM ET). University of Michigan Sentiment and five-year inflation expectations come later (10:00 AM ET).

Graphic updated 6:45 AM ET. Sentiment Neutral if expected /ES open is inside of the prior day’s range. /ES levels are derived from the profile graphic at the bottom of the following section. Levels may have changed since initially quoted; click here for the latest levels. SqueezeMetrics Dark Pool Index (DIX) and Gamma (GEX) calculations are based on where the prior day’s reading falls with respect to the MAX and MIN of all occurrences available. A higher DIX is bullish. At the same time, the lower the GEX, the more (expected) volatility. Learn the implications of volatility, direction, and moneyness. SHIFT data used for S&P 500 (INDEX: SPX) options activity. Note that options flow is sorted by the call premium spent; if more positive, then more was spent on call options. Breadth reflects a reading of the prior day’s NYSE Advance/Decline indicator. VIX reflects a current reading of the CBOE Volatility Index (INDEX: VIX) from 0-100.

What To Expect

Fundamental: At its core, there’s a commitment to cutting liquidity and credit after the spending of COVID-era “benefits and lockdown savings … created a lot of demand,” and inflation.

Graphic: Via the Federal Reserve. Taken from Nasdaq Inc (NASDAQ: NDAQ). “Rates have risen dramatically this year, impacting valuations of stocks and bonds.”

This has consequences on the real economy and asset prices, accordingly, which rose and kept the deflationary pressures of prevailing monetary policies at bay.

Graphic: Taken from Nasdaq Inc. “At a very simple level, rising rates increase interest expenses, reducing profits. But they also cause investors, who can earn more interest on safe cash deposits, to demand stronger returns from all other investments too.”

As unpacked, in detail, on May 18, 2022, there is an argument that stock market drops are both a recession and a reflection of the unwind of carry (or investment in long-duration bets with cheap debt) – a deflationary shock.

Graphic: Via Bloomberg. “Tighter financial conditions themselves are a clear success story for the Fed — it is the only way they can reduce inflationary pressures,” said Seema Shah, chief strategist at Principal Global Investors.

“The Fed has a mandate … to control price stability,” Kai Volatility’s Cem Karsan had explained.

“With supply-side economics, the only way that they can control this ultimately is to pull back. And slow capital markets decrease via the wealth effect. Ultimately, there’s a significant lag, so they are not in a position to ultimately control inflation without bringing down markets.”

Graphic: Via Bloomberg. “Of course, economic growth is a good thing. But too much of that good thing will just continue to stoke inflation. With that perspective in mind, the slowdown in surprises is positive.”

Accordingly, in our May 25, 2022 commentary, in which we discussed what to search for in the minutes of the last Federal Open Market Committee (FOMC) meeting. Knowing that there’s a lag in policy impact, we accurately floated the potential for the Federal Reserve (Fed) to “shift gears” late this summer if further cooling of inflation and “evidence of a growth slowdown.”

Graphic: Via Bloomberg. “After hitting a record above 3% last month, 10-year breakevens are on track for their biggest monthly drop since March 2020. The so-called five-year, five-year forward — the Fed’s favored measure — is set to post its biggest drop in May since August 2019.”

“Policy works with a lag,” as Diane Swonk of Grant Thorton explained. The Fed may pause as it seeks to “catch up but not outrun the market in its effort to tighten credit market conditions.” 

“There is still more progress to be made in bringing inflation expectations down to resonate with the Committee’s target, but current valuations are at least in the realm of acceptable,” Ian Lyngen, who is head of U.S. rates strategy at the Bank of Montreal (NYSE: BMO), said

“The market is showing some faith in Powell’s inflation-fighting creditability.”

Graphic: Taken from Nasdaq Inc. “Although inflation is high right now, it’s because of Covid and the Ukraine war. Both, hopefully, will pass, and 3%-4% inflation a year from now seems possible if the economy slows to a more normal level. In turn, that means the interest rate that keeps the U.S. economy growing slowly is likely much lower than we might currently be thinking. It might, in fact, be right around where bond rates are now.”

Concluding the fundamental section with remarks from a March 2022 Substack newsletter published by Andreas Steno Larsen of the Stenos Signals Substack.

“I simply don’t find >3.5% territory for the Fed Funds feasible as the hiking cycle peaked at 2.25-2.50% in 2018/2019 and fundamentals have worsened since. Debt loads are much higher, demographics have weakened, and the labour force is smaller, which suggests that the neutral rate is lower, not higher, than in 2018/2019.”

Graphic: Via Bloomberg. “​​The swaps market and consensus forecasts to Bloomberg Economics both imply considerably faster rate hikes, while Bloomberg’s own forecast is more hawkish still.”

Positioning: Per Bank of America Corporation (NYSE: BAC) notes, investors poured nearly $20 billion into global stocks (in the week to May 25, 2022).

As I wrote in a SpotGamma note, notable was the reversal in beaten-down areas of the market, as well as the implosion at the front-end of the volatility term structure, affecting protection most sensitive to changes in direction and volatility.

The Cboe VVIX Index (INDEX: VVIX), the expected volatility of the 30-day forward price of the VIX or the volatility of volatility (a naive but useful measure of skew), dropped off markedly, too, in comparison to the VIX, itself.

Graphic: Via Physik Invest. Taken from TradingView. VVIX, top. VIX, bottom.

Further, as stated in SpotGamma’s note, a “falling VVIX (and VIX term structure drop off) may be the product of a collapse in the value of customers’ long put exposures concentrated in very short-dated timeframes (potentially exposures hedging tail risks with respect to the release of FOMC minutes, among other things).”

“It is then as the skew, here, decays, and term structure compresses, that liquidity providers buy back their hedges to the puts they are short (i.e., the vanna dynamic pointed to, earlier).”

This market-generated information helps us give context to this most recent equity market rally that is characterized by a little change in demand for bets on upside further in price and time 

All else equal, this is not a feature of sustainable market rallies.

Why you ask?

Those names that have been most depressed, and are now reversing, were recipients of heavy demand for protection in the months prior.

For this reason – participants being well hedged – selling was orderly, rather than violent as in past episodes of market shock when the reach for protection solicited a cascading reaction that exacerbated underlying price movements due to liquidity providers’ hedging.

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

The large drop off in term structure, as well as the VVIX versus the VIX, is affecting protection most sensitive to changes in direction and volatility and the unwind of liquidity providers’ short futures and stock hedges to this protection is, in part, playing into this internally weak rally.

So, what? How do you play this? Good question.

It still may make sense to have exposure to underlying markets, synthetically (i.e., own options), as detailed, well, May 25, 2022. Read that letter for detail on how to think about trade structure.

Technical: As of 6:45 AM ET, Friday’s regular session (9:30 AM – 4:00 PM ET), in the S&P 500, will likely open in the upper part of a positively 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 $4,069.25 HVNode puts in play the $4,095.00 ONH. Initiative trade beyond the ONH could reach as high as the $4,119.00 VPOC and $4,148.25 HVNode, or higher.

In the worst case, the S&P 500 trades lower; activity below the $4,069.25 HVNode puts in play the $3,997.75 RTH High. Initiative trade beyond the RTH High could reach as low as the $3,982.75 LVNode and $3,951.00 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

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 26, 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!

Separately, the Daily Brief will be on pause from May 30, 2022, to June 7, 2022, due to the author’s overseas travel commitments. Apologies for the inconvenience and happy trading!

What Happened

Overnight, equity index futures were divergent, albeit nearly flat, after Wednesday’s release of minutes to the last Federal Open Market Committee (FOMC) meeting were less hawkish than expected, bolstering a small expansion of the range to the upside.

Though higher prices were held at the index level, some products like Apple Inc (NASDAQ: AAPL) were lower after issuing updates on its production. Yesterday, it was social media and advertising businesses like Snap Inc (NYSE: SNAP) that fell on forecasts for meager growth.

In other news, Sequoia Capital warned that the current environment for founders is a “crucible moment,” and there is no indication good times will return soon. 

Pursuant to that belief, we have firms like Klarna and Bolt, who just began laying off employees, preparing for slower growth and focusing on “short-term profitability.”

A chief concern, among participants at the World Economic Forum, beyond a global recession and inflation, is the potential for ongoing conflicts to cause “mass starvation” and “political instability around the world.”

Today we get updates on jobless claims, real gross domestic product, and income, as well as final sales to domestic purchasers (8:30 AM ET). Later, pending home sales (10:00 AM ET).

Graphic updated 6:30 AM ET. Sentiment Neutral if expected /ES open is inside of the prior day’s range. /ES levels are derived from the profile graphic at the bottom of the following section. Levels may have changed since initially quoted; click here for the latest levels. SqueezeMetrics Dark Pool Index (DIX) and Gamma (GEX) calculations are based on where the prior day’s reading falls with respect to the MAX and MIN of all occurrences available. A higher DIX is bullish. At the same time, the lower the GEX, the more (expected) volatility. Learn the implications of volatility, direction, and moneyness. SHIFT data used for S&P 500 (INDEX: SPX) options activity. Note that options flow is sorted by the call premium spent; if more positive, then more was spent on call options. Breadth reflects a reading of the prior day’s NYSE Advance/Decline indicator. VIX reflects a current reading of the CBOE Volatility Index (INDEX: VIX) from 0-100.

What To Expect

Fundamental: As was suggested could happen in Wednesday’s pre-market letter, the Federal Reserve (Fed) indicated potential policy flexibility, later this year.

Per the most recent FOMC minutes, officials are determined to achieve price stability with “50 basis-point increases in the target range … at the next couple of meetings.”

“Many participants judged that expediting the removal of policy accommodation would leave the committee well-positioned later this year to assess the effects of policy firming and the extent to which economic developments warranted policy adjustments.”

Graphic: Via Bloomberg. “​​The swaps market and consensus forecasts to Bloomberg Economics both imply considerably faster rate hikes, while Bloomberg’s own forecast is more hawkish still.”

Accordingly, finalized were balance sheet reduction plans. Starting June 1, 2022, Treasury holdings will decline by $30 billion per month, rising to $60 billion per month in September. 

Mortgage-backed securities (MBS) holdings will shrink by $17.5 billion per month, ultimately rising to $35 billion, in accordance with our post-FOMC letter published May 5, 2022.

As stated, previously, with QT, central banks remove assets from their balance sheet either through outright sales or the non-reinvestment of the principal sum of maturing securities.

“QT is a direct flow of capital to capital markets” and the prospects of withdrawing this liquidity, when revealed in December’s FOMC meeting minutes, was what fed into a retreat from risk.

Graphic: Via Reuters.

Overall, the minutes left the tone unchanged and reaffirmed the Fed’s commitment to stable prices.

Bloomberg’s John Authers concludes, well: “If inflation should look as though it might fail to get down even to the revised forecast of 4.3% by the end of the year, there’s still a possibility that the Fed will have to be more hawkish than it currently intends, not less.”

“But at least the path until the end of summer looks clear.”

Graphic: Via Bloomberg.

Positioning: We’re carrying forward remarks from notes earlier this week as there has been a limited change in tone.

Based on current positioning, most products we monitor continue to trade in an environment that solicits more volatile hedging of put open interest and realized volatility (RVOL). This is because, naively, we look at participants as mainly owning protection to the downside. 

So, they have asymmetric (positive gamma) exposure to the downside (negative delta). On the other side, liquidity providers have a negative gamma and positive delta that they must sell into weakness and buy into strength underlying to hedge.

It is at a certain juncture, far above current prices (i.e., Zero Gamma), that the volatile effects of hedging this put open interest begin to cool. It is above these levels that participants’ exposure to calls solicits increased hedging activities which promote stability and less volatility.

Graphic: Via Tier1Alpha. “Spot SPX is currently over -8.55% below the gamma flipping point, a distance similar to the drawdown at the end of 2018. We’ll have to see quite a reverse in trend before a substantial regime shift can take place.”

It’s because, naively, we look at participants as financing their bets on the downside with call exposure. On the other side, liquidity providers, then, have a positive gamma and delta trade they hedge by buying into weakness and selling into strength.

We’re definitely not there yet but, based on remarks in past letters (e.g., stretched market and investors bidding “skew on the call side” amid their “fear of missing on the upside”), this letter’s author continues leaning toward strategies that have little to lose in case of further implied volatility (IVOL) compression or weakness into the June FOMC and OPEX.

Graphic: Via SpotGamma. “[C]all positions were added [above] $4,000.00, with $4,100.00 [and] $4,200.00 adding 10k + 15k [in open interest] respectively. That’s not huge, but it was enough to kink the gamma curve in an interesting way.”

Technical: As of 6:30 AM ET, Thursday’s regular session (9:30 AM – 4:00 PM ET), in the S&P 500, will likely open in the upper part of a positively skewed overnight inventory, nearly 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 $3,951.00 VPOC puts in play the $3,997.75 RTH High. Initiative trade beyond the RTH High 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 $3,951.00 VPOC puts in play the $3,909.25 MCPOC. Initiative trade beyond the MCPOC 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.

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 23, 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 probed outside of the prior day’s large trading range but quickly rotated back inside. Overall, the major indexes and commodities were higher. Volatility was bid.

In the news was President Biden’s remark that the U.S. would intervene with the military to defend Taiwan from a China invasion.

This is just as the administration unveiled a 13-nation economic pact to assert Asia leadership. In response, China’s Foreign Minister Wang Yi said the pact was “doomed to fail.”

In other news, the U.S. got its first 70,000 pounds of baby formula to ease shortages. Beijing saw the most cases of a new COVID-19 outbreak, and Russia may ease key FX limits.

Ahead, there is no data scheduled to be released. Today’s commentary will be lighter.

Graphic updated 6:35 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: A shortened commentary to start our Monday.

JPMorgan Chase & Co’s (NYSE: JPM) Chief U.S. economist Michael Feroli notes that as the Federal Reserve gains traction in cutting financial conditions, the U.S. is, indeed, likely to grow slower in 2H22 and 2H23. 

Graphic: Via Bloomberg.

“A stronger dollar, lower equity prices, and higher mortgage rates will weigh on demand,” The Market Ear said in their summary of Feroli’s remarks.

“Over time weaker output demand should lead to weaker labor demand.”

Positioning: Wrote an explainer on market weaknesses, from a positioning perspective, via Benzinga. Check out, if interested. Alternatively, read Friday’s in-depth letter, also.

Mainly, we’re in an environment characterized by volatility suppressing activities and an “observed divergence in the volatility realized, versus that which is implied by options activity.”

Graphic: Via Tier1Alpha. May 18’s “-4% close ended up being the first three-sigma event since 2020, and the most significant daily drawdown while the VIX is still under 35, since 2011. This is only the 6th time ever SPX has had this large of a drop with the VIX at this level, with the past dates highlighted in the chart below.”

Moreover, OPEX coincided with the removal of a lot of put delta (i.e., exposure to direction).

Those who are on the other side (e.g., liquidity providers or market makers), who were short these puts (a positive delta trade) protecting investors to the downside, are to buy back their short stock and futures hedges (a negative delta trade, initially) to re-hedge.

That means markets have less pressure (negative delta) to contend with in their attempts up. 

Ultimately, options analysis service SpotGamma thinks that “[a]ny ultimate rally off of OPEX [is] subject to swift reversals.”

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

In the best case, the S&P 500 trades higher; activity above the $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 (low volume area) 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.

What People Are Saying

Definitions

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

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

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

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

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.