Categories
Commentary

Daily Brief For December 1, 2022

Physik Invest’s Daily Brief is read by thousands of subscribers. You, too, can join this community to learn about the fundamental and technical drivers of markets.

Graphic updated 7:00 AM ET. Sentiment Neutral if expected /ES open is inside of the prior day’s range. /ES levels are derived from the profile graphic at the bottom of this letter. Levels may have changed since initially quoted; click here for the latest levels. SqueezeMetrics Dark Pool Index (DIX) and Gamma (GEX) with the latter calculated 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. Click to learn the implications of volatility, direction, and moneyness. Breadth reflects a reading of the prior day’s NYSE Advance/Decline indicator. VIX reflects a current reading of the CBOE Volatility Index (INDEX: VIX) from 0-100.

Administrative

We will issue a content calendar, soon, revealing the dates letters are likely to be published and the content that may be covered. That said, due to the writer’s travel commitments, from 12/6 to 12/9 and 12/12 to 12/16 there will be no commentaries. If any queries, or if you are local to New York City or Paris, ping renato@physikinvest.com or Renato Capelj#8625 on Discord.

Reflections

Fundamentally, our Wednesday letter pointed to some macro-type forces creating an uncertain context for traders.

Key crosswinds are numbered (1-4).

Alongside (1) easing financial conditions, the markets roared higher with boosts coming from (2) a “vol crunch” and “systemic exposure reallocation,” Nomura Holdings Inc’s (NYSE: NMR) Charlie McElligott November 28, 2022, said.

Our November 30, 2022 letter noted Morgan Stanley (NYSE: MS) strategists were seeing a (3) “contraction … [or] squeezing of liquidity that, alone, implies an 8% drop for the S&P 500.”

Strategists JPMorgan Chase & Co (NYSE: JPM) agreed

On “a significant decline in corporate earnings, at a time of higher interest rates (implying lower P/Es and lower prices relative to the 2022 lows), … [a] market decline could happen between now and the end of the first quarter of 2023.”

With (4) “the financial system … evolved around an environment of near-zero interest rates, … [built up] market interdependencies … can cause selloffs” that feed on themselves (i.e., large market drops statistically add to the likelihood of further large drops).

In light of the above (1-4) crosswinds, we took a step back and asked: 

How do we get bullish – particularly if policymakers ease the pace of rate increases – and not lose much money if the market falls, or position ourselves for the drop many expect?

Graphic: Retrieved from Bloomberg.

To quote our November 30, 2022 letter, the Nasdaq 100’s (INDEX: NDX) “volatility skew … was smile-shaped, … making for some great trades to the upside,” we said, adding: “we can use the richness of further away calls to reduce the cost of our bets on the market upside.”

Graphic: Updated 11/28/2022. Retrieved from Interactive Brokers (NASDAQ: IBKR). Nasdaq 100 (INDEX: NDX) volatility skew resembles the so-called smile.

The sample trade provided: 500-1000 points wide call ratio spreads (buy the closer leg, sell two of the farther legs) expiring in fifteen days may work well (e.g., SELL -1 1/2 BACKRATIO NDX 100 16 DEC 22 [AM] 13425/13925 CALL @.20 CR LMT). 

The trade’s key greeks (+Delta and +Gamma) suggested upside would result in profit. The NDX did rise, and the sample trade priced as high as +2,000%. Adding, as sized by the letter writer, if NDX -10.00%, the loss was limited to $60.00. If the NDX +10.00%, with other conditions the same, profit ~$12,000.00. 

Graphic: Retrieved from the Charles Schwab Corporation-owned (NYSE: SCHW) thinkorswim platform. Nasdaq 100 options prices. 

Back to the present. What now?

With news that China is loosening its grip on Covid, and the Federal Reserve seeing inflation fall in some parts of the economy (despite markets showing the terminal rate at ~5.20% next spring) ahead of PCE inflation updates this morning, there is a chance for follow-on bullishness.

Graphic: Via Charles Schwab Corporation’s (NYSE: SCHW) TD Ameritrade thinkorswim. Observed is the Eurodollar, the interest offered on U.S. dollar-denominated deposits held at banks outside of the U.S. (i.e., participants’ outlook on interest rates).

So, what is the takeaway?

The purpose of this letter, though it seems we venture beyond it at times, is to ponder theory as well as generate actionable trade ideas based on the application of theory to recent happenings. 

Though there are factors that may skew the expected distribution of returns one way or another, a trade is a coinflip; your bet either works or it does not. Using the factors of volatility and time to our advantage may lower the risk and cost of bets, in case they do not pan out.

In short, we don’t know if up or down, but we can use market context to lower our costs and live to fight another day! See you later.

Technical

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

Our S&P 500 pivot for today is $4,069.25. 

Key levels to the upside include $4,093.00, $4,122.75, and $4,136.75. 

Key levels to the downside include $4,049.25, $4,024.00, and $4,000.25.

Click here to load today’s key levels into the web-based TradingView platform. 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: Markets will build on areas of high-volume (HVNodes). Should the market trend for long periods of time, it will be identified by low-volume areas (LVNodes). LVNodes denote directional conviction and ought to offer support on any test.

If participants auction and find acceptance in an area of a prior LVNode, then future discovery ought to be volatile and quick as participants look to HVNodes for favorable entry or exit.

POCs: 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: Denote areas where two-sided trade was most prevalent over numerous 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

In short, an economics graduate working in finance and journalism.

Capelj spends most of his time as the founder of Physik Invest through which he invests and publishes daily analyses to subscribers, some of whom represent well-known institutions.

Separately, Capelj is an equity options analyst at SpotGamma and an accredited journalist interviewing global leaders in business, government, and finance.

Past works include conversations with investor Kevin O’Leary, ARK Invest’s Catherine Wood, FTX’s Sam Bankman-Fried, Lithuania’s Minister of Economy and Innovation Aušrinė Armonaitė, former Cisco chairman and CEO John Chambers, and persons at the Clinton Global Initiative.

Contact

Direct queries to renato@physikinvest.com or Renato Capelj#8625 on Discord.

Disclaimer

Do not construe this newsletter as advice. All content is for informational purposes.

Categories
Commentary

Daily Brief For November 30, 2022

Physik Invest’s Daily Brief is read by thousands of subscribers. You, too, can join this community to learn about the fundamental and technical drivers of markets.

Graphic updated 7:20 AM ET. Sentiment Neutral if expected /ES open is inside of the prior day’s range. /ES levels are derived from the profile graphic at the bottom of this letter. Levels may have changed since initially quoted; click here for the latest levels. SqueezeMetrics Dark Pool Index (DIX) and Gamma (GEX) with the latter calculated 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. Click to learn the implications of volatility, direction, and moneyness. Breadth reflects a reading of the prior day’s NYSE Advance/Decline indicator. VIX reflects a current reading of the CBOE Volatility Index (INDEX: VIX) from 0-100.

Administrative

For the first time in a while, I am able to catch up to and focus more on active trading, hence the earlier letter, today. What a crazy past few months. Almost back to normal!

We will issue a content calendar, soon, revealing the dates letters are likely to be published and the content that may be covered.

That said, due to the writer’s travel commitments, from 12/6 to 12/9 and 12/12 to 12/16 there will be no commentaries. If any queries, or if you are local to New York City or Paris, ping renato@physikinvest.com or Renato Capelj#8625 on Discord.

Fundamental

In many ways, the opposite of what happened to bolster a rally across risk assets like equities and crypto is happening, now. As unpacked in detail across letters including our Daily Brief for October 5, 2022, liquidity measures are in a near-lockstep fall with the S&P 500 (INDEX: SPX).

The correlation between so-called net liquidity described further below, and the S&P 500, over the past ten years is about 0.70 and explains more than half of the movement in price-earings multiples over the past decade.

Graphic: Retrieved from Bloomberg.

Detailed in previous letters was how processes like quantitative tightening manifest themselves as less demand for assets; per Fabian Wintersberger, central bankers must “recycle bonds into the markets on an unprecedented scale, which could easily lead to lower bond prices/higher yields” causing a “reflux of capital to safe-haven assets, like treasuries.”

Alfonso Peccatiello of The Macro Compass details more on the impact of more or less financial sector money in a post titled “All They Told You About Money Printing Is Really, Really Wrong.”

Adding, “the Fed has [only] reduced its holdings by 1.5% by letting bonds mature on its balance sheet. If they want to reduce the balance sheet back to the level of 2020, it needs to reduce it by 41%; … [therefore], [i]f history is any guide, the stock market has yet to face its most significant problems in such a scenario.”

Morgan Stanley’s (NYSE: MS) trading team agrees, per a recent Bloomberg article on a looming bear case for the S&P 500.

Though “rate increases get all the blame for this year’s bear market” and a projected “slowdown in the pace of rate hikes” helping “equities emerge from the yearlong bear, … the S&P 500 will drop as much as 15% by March, based on historic patterns and projected money flows,” which major inputs include “changes in the Fed’s balance sheet (BS); the Treasury General Account (TGA), or Treasury cash held at the central bank; and Reverse Repo Facilities (RRP), or cash parked at the Fed by money market funds and others.”

Graphic: Retrieved from Bloomberg. Inflation increases are easing.

In other words, net liquidity is the Fed’s BS less TGA and RRP. See the below graphic.

Accordingly, “a rise in Fed’s balance sheet means an expansion in liquidity that bodes well for stocks, while an increase in TGA or RRP suggests a contraction in liquidity.” 

Based on the QT pace ($95 billion per month) and forecasts the Treasury cash balance will “rise by $200 billion into yearend, … [amounting] to a squeezing of liquidity that alone implies an 8% drop for the S&P 500 by the end of December.”

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

In summary, “there’s no longer enough money to finance [the] production of those goods and to support a stock market that’s still far from cheap.”

Graphic: Retrieved from VettaFi. “If the supply of money (in aggregate, M2) is higher than the demand for money (represented by nominal GDP), then there is “excess” liquidity that can and will find its way into asset prices.  Furthermore, if the growth of money supply exceeds the growth of GDP, that excess liquidity builds, and there is more of it to find its way into more asset prices.  In theory, the inverse would also hold true.  If the growth of GDP exceeds the growth of money supply, then excess liquidity is being consumed by the demand for money.  In this scenario, the real economy is feeding on liquidity that was once flowing into asset prices.”

Positioning

As we said earlier this week (November 29, 2022, and November 28, 2022), it’s not a terrible time to hedge, and selling volatility, blindly, on either side of the market, is not a great trade.

As SpotGamma put well, yesterday, implied volatility (IVOL) is at a low meaning “it makes sense to buy volatility and put on trades that make money if the market moves” but leverage the skew to sell “options to cut down the cost of waiting for that movement to happen.”

In our letter, yesterday, we highlighted Nasdaq 100 (INDEX: NDX) volatility skew and showed it was smile-shaped, rather than the typical smirk-shaped reverse pattern, making for some great trades to the upside. Through steeper call volatility skew – a result of traders positioning for an upside move – we can use the richness of further away calls to reduce the cost of our bets on the market upside.

Graphic: Updated 11/28/2022. Retrieved from Interactive Brokers (NASDAQ: IBKR). Nasdaq 100 (INDEX: NDX) volatility skew resembles the so-called smile.

For instance, low-cost 500-1000 points wide call ratio spreads (buy the closer leg, sell two of the farther legs) expiring in fifteen days may work well (e.g., SELL -1 1/2 BACKRATIO NDX 100 16 DEC 22 [AM] 13425/13925 CALL @.20 CR LMT). The immediate concern with these strategies is your exposure to Delta (i.e., direction) and Gamma (i.e., does movement make you money).

The required reading is Dynamic Hedging: Managing Vanilla and Exotic Options!

Graphic: Retrieved from the Charles Schwab Corporation-owned (NYSE: SCHW) thinkorswim platform. Nasdaq 100 options prices.

If you are exposed to +Delta and +Gamma, your trade makes money in an increasing way as the market rises, barring any other changes (e.g., passage of time, increases in volatility, etc).

If you are exposed to -Delta and -Gamma, your trade loses money in an increasing way as the market rises, barring any other changes. Should the movement happen quickly, and volatility rise, which is not likely, then that worsens the situation. 

The required reading is Dynamic Hedging: Managing Vanilla and Exotic Options!

This is not advice but a framework for how to act on the theory we talk about on a daily basis. In short, don’t sell calls and puts blindly. Adding, the above trade may not provide safe exposure to the market upside or downside. Given the sideways trade and contraction in ranges, we aim to be well-positioned for a move from low to high volatility. Stay safe and watch your risk.

Noting, should you sell IVOL, the market trade lower, and the demand for IVOL rises, you may be left in an awkward position; big market drops statistically add to the likelihood of more drops.

Read The Second Leg Down: Strategies for Profiting after a Market Sell-Off!

Graphic: Retrieved from SqueezeMetrics.

Technical

As of 7:15 AM ET, Wednesday’s regular session (9:30 AM – 4:00 PM ET), in the S&P 500, is likely to 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.

Our S&P 500 pivot for today is $3,965.25. 

Key levels to the upside include $3,997.00, $4,024.00, and $4,051.00. 

Key levels to the downside include $3,923.00, $3,909.25, and $3,871.25.

Click here to load today’s key levels into the web-based TradingView platform. 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: Markets will build on areas of high-volume (HVNodes). Should the market trend for long periods of time, it will be identified by low-volume areas (LVNodes). LVNodes denote directional conviction and ought to offer support on any test.

If participants auction and find acceptance in an area of a prior LVNode, then future discovery ought to be volatile and quick as participants look to HVNodes for favorable entry or exit.

Gamma: The sensitivity of an option’s Delta to changes in the underlying asset’s price.

Volga: The sensitivity of an option’s Vega to changes in the underlying’s implied volatility.

POCs: 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: Denote areas where two-sided trade was most prevalent over numerous 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

In short, an economics graduate working in finance and journalism.

Capelj spends most of his time as the founder of Physik Invest through which he invests and publishes daily analyses to subscribers, some of whom represent well-known institutions.

Separately, Capelj is an equity options analyst at SpotGamma and an accredited journalist interviewing global leaders in business, government, and finance.

Past works include conversations with investor Kevin O’Leary, ARK Invest’s Catherine Wood, FTX’s Sam Bankman-Fried, Lithuania’s Minister of Economy and Innovation Aušrinė Armonaitė, former Cisco chairman and CEO John Chambers, and persons at the Clinton Global Initiative.

Contact

Direct queries to renato@physikinvest.com or Renato Capelj#8625 on Discord.

Disclaimer

Do not construe this newsletter as advice. All content is for informational purposes.

Categories
Commentary

Daily Brief For November 29, 2022

Physik Invest’s Daily Brief is read by over 1,200 people. To join this community and learn about the fundamental and technical drivers of markets, subscribe below.

Graphic updated 6:50 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 this letter. Levels may have changed since initially quoted; click here for the latest levels. SqueezeMetrics Dark Pool Index (DIX) and Gamma (GEX) with the latter calculated 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. Click to learn the implications of volatility, direction, and moneyness. Breadth reflects a reading of the prior day’s NYSE Advance/Decline indicator. VIX reflects a current reading of the CBOE Volatility Index (INDEX: VIX) from 0-100.

Positioning

Aksel Kibar of Tech Charts said it well: There are two types of trades.

1) Trades that you take moving from low volatility to high volatility [and] 2) trades that you take in high volatility while moving to low volatility.”

Graphic: Retrieved from Aksel Kibar, CMT.

Like Kibar, we aim to be well-positioned for a move from low to high volatility. In short, that is where we are today. After an expansion of range to the upside, markets are trading sideways, in a tight range, and traders’ recent activities are likely to keep the status quo intact a bit longer.

Notwithstanding, we are likely nearing an expansion of realized volatility (RVOL), per the implied volatility (IVOL) bid; on Monday, some IVOL measures, such as the Cboe Volatility Index (INDEX: VIX), shifted up, as did term structure. Markets sold a bit, too.

Quick aside:

Changes in IVOL are a byproduct of supply and demand (i.e., demand rushes in → IVOL rises → option prices adjust higher).

When protection is demanded by investors, counterparties may pressure markets (a naive take, if we will, for the purpose of breaking things down).

To explain further, say the market is in balance and trading sideways, and traders seek to protect against potential downside movement by purchasing put options.

This new demand will bid put options prices, causing counterparties to hedge in a manner that pressures the market (i.e., a trader buys put and bids IVOL → the counterparty sells that put and futures to hedge that put), as we’re seeing (i.e., IVOL higher and market lower ahead of updates to measures like the Personal Consumption Expenditures [INDEX: PCE], the Fed’s go-to inflation reading).

Back to the letter:

Upon some new information, participants will enter and reprice the market.

Counterparties’ re-hedging could add to the movement up or down (e.g., traders sell their put hedges → IVOL compresses → counterparties buy back futures hedges and support the market).

If you’re betting on lower prices, recommended is a quick reference of Physik Invest’s Daily Brief for November 28, 2022. In short, according to SpotGamma, “there’s less to be lost owning protection down below,” given the performance of skew, relative to topline measures such as the Cboe Volatility Index (INDEX: VIX).

“On the contrary, if you buy [protection] and nothing happens, that [protection] may very well hold its value better than in the past.”

Graphic: Retrieved from TradingView. Top, S&P 500 (INDEX: SPX). Middle Nations SkewDex (INDEX: SDEX). Bottom Cboe Volatility Index (INDEX: VIX). According to one paper from Nations Indexes, “SkewDex tells market participants how expensive out-of-the-money options are in relation to at-the-money options and thus, how risk-averse investors are.”

On the call side, the story is similar; selling volatility blindly is not a good trade. 

To explain, incentive schemes drove “people to be much more willing to pay and chase upside,” and this is, in part, evidenced by historically low skew. There is also stock replacement, among other things, due to the opportunity cost of buying stock being higher in the current interest rate environment (i.e., “higher call options premium when interest rates are high is the ‘opportunity cost’ of forgone interest”).

Graphic: Retrieved from Charles Schwab Corporation (NYSE: SCHW).

In the interest of brevity, this environment has resulted in a smile-shaped volatility skew pattern, rather than the typical smirk-shaped reverse volatility skew pattern. 

Graphic: Retrieved from Interactive Brokers (NASDAQ: IBKR). Nasdaq 100 (INDEX: NDX) volatility skew resembles the so-called smile.

Skew has steepened on the call side – a result of traders positioning for an upside move – and we can use the richness of out-of-the-money calls to reduce the cost of our bets on the market upside.

Graphic: Retrieved from the Charles Schwab Corporation-owned (NYSE: SCHW) thinkorswim platform. Nasdaq 100 options prices.

For instance, low-cost 500-1000 points wide call ratio spreads (buy the closer leg, sell two of the farther legs) expiring in fifteen days may work well.

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

A concern with these strategies is the width and time to expiry. Should either of those be wrong, then spreads initially positive gamma turn negative, meaning upside market movement hurts the position and losses are amplified.

Technical

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

Our S&P 500 pivot for today is $4,997.00. 

Key levels to the upside include $4,024.00, $4,051.00, and $4,069.25. 

Key levels to the downside include $3,965.25, $3,923.00, and $3,909.25.

Click here to load today’s key levels into the web-based TradingView platform. 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.

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 writes options market analyses at SpotGamma and is a Benzinga journalist. 

His past works include private discussions with ARK Invest’s Catherine Wood, investors Kevin O’Leary and John Chambers, the infamous Sam Bankman-Fried of FTX, former Bridgewater Associate Andy Constan, Kai Volatility’s Cem Karsan, The Ambrus Group’s Kris Sidial, the Lithuanian Delegation’s Aušrinė Armonaitė, among many others.

Contact

Direct queries to renato@physikinvest.com or Renato Capelj#8625 on Discord.

Disclaimer

Do not construe this newsletter as advice. All content is for informational purposes.

Categories
Commentary

Daily Brief For July 20, 2022

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

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

Fundamental

Thanks to all the subscribers who have signed up in the past few days. Not sure how you got here so thank you! Also, thanks to whoever may have shared the letter to make that happen!

From here, you can expect in-depth commentaries on aspects like fundamentals, technicals, and positioning. Insights are actionable as they help me protect and grow my own capital!

Without further delay, below is what you need to know for today!

In the news was Netflix Inc’s (NASDAQ: NFLX) post-earnings jump on better-than-expected subscriber loss numbers, the Russians and Europeans agreeing on gas pipelines, mortgage boycotts spreading across China, tight food supplies, gas prices falling to some of the lowest levels in months, and China warning against a Taiwan visit by the U.S.

View: Earnings calendar.

Further, after our July 19 remark on incredibly strong pessimism likely to serve as a contrarian signal, the equity indexes pushed higher, following through key multi-week resistance.

Key levels quoted held nearly to the tick. Now, both the Nasdaq 100 (INDEX: NDX) and S&P 500 (INDEX: SPX) are above their 20- and 50-day moving averages. The Russell 2000, a laggard, made it above the 200-day moving average.

Graphic: Retrieved from Bloomberg.

The speed and ferociousness of the rally have more to do with how participants were positioned – in light of what seemed to be a worsening fundamental situation – into the break of some very visual resistances, discussed in prior letters. Read the next section for more on the positioning.

Graphic: Retrieved from Bloomberg.

Cryptocurrencies, which were recipients of the same risk-on flows equities saw, too, went higher yesterday. Per CoinMetrics data, Bitcoin’s (CRYPTO: BTC) correlation to equities is positive.

Graphic: Retrieved from Bloomberg.

For context, asset volatility had fallen on participants’ extension of moneyness to nonmonetary assets, given easy monetary policies and an environment of ample debt and leverage. These policies made it easier to borrow and make longer-duration bets on ideas with lots of promise.

This had consequences on the real economy and asset prices, accordingly, which rose and kept deflationary pressures at bay. The distinction between economies and financial markets blurred.

When the reverse happens – tighter liquidity and credit – and volatility eventually rises, demand (and competition) for money (or cash) deflates assets (e.g., equities, crypto, and the like).

Graphic: Via Schroders plc (OTC: SHNWF). Taken from the Weekly S&P 500 ChartStorm.

With U.S. market liquidity, as well as the dollar’s role as a global reserve currency, putting U.S. markets and the S&P 500 at the center of the global carry regime, a U.S. stock market drop is a recession and the direct reflection of the unwinds of carry.

It is the manifestation of a deflationary shock, and today’s sentiment reflects this.

Graphic: Retrieved from Layoffs.fyi Tracker.

Ultimately, a deflationary pulse manifesting disinflation in consumer prices may prompt the Fed (Federal Reserve) to reverse on rates and quantitative tightening (QT), the (out)flow of capital from capital markets.

Graphic: Graphic: Via Bank of America Corporation (NYSE: BAC). Retrieved from Bloomberg. “The previous low on this measure came five months before the final market low, but again this could be taken as evidence that the market has already taken enough evasive action.”

Positioning

The continued sale of volatility (as long volatility trades have not panned out), particularly across shorter time horizons, left those, on the other side, warehousing long volatility (a sort-of naive thing to say bluntly as we’re discounting customer trades being paired off with each other).

Graphic: Retrieved from Goldman Sachs Group Inc (NYSE: GS).

Nonetheless, these liquidity providers’ positions, all else equal, will maintain or increase in value if underlying(s) realize volatility (especially that far in excess of implied). To (re)hedge, those on the other side will do less to add realized (RVOL) volatility and more to suppress implied (IVOL).

Graphic: Via Banco Santander SA (NYSE: SAN). Into strength (weakness), counterparties’ long call exposures will increase (decrease) in value. To re-hedge, counterparties will buy (sell) weakness (strength).

Moreover, with RVOL creeping (and exceeding, at times) the IVOL, short volatility structures, particularly if unhedged and across short time horizons, are not doing good. The unwinding of these structures can add fuel to the directional resolve (e.g., if the customer buys back a short call, the liquidity provider sells their long call and buys back their short equity to re-hedge).

Hence, options structures that we said may be good to take advantage of the “smiley” skew (e.g., zero- or low-cost call ratio spreads) are performing much better.

Graphic: Updated 7/18/2022. Via Charles Schwab Corporation-owned (NYSE: SCHW) TD Ameritrade’s Thinkorswim. Skew resembles more of a smile, rather than a smirk.

Technical

As of 6:45 AM ET, Wednesday’s regular session (9:30 AM – 4:00 PM ET), in the S&P 500, is likely to 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.

Any activity above the $3,943.25 HVNode puts into 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.

Any activity below the $3,943.25 HVNode puts into play the $3,909.25 MCPOC. Initiative trade beyond the MCPOC could reach as low as the $3,867.25 LVNode and $3,829.75 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.

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

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

Definitions

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

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

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

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, former Bridgewater Associate Andy Constan, Kai Volatility’s Cem Karsan, The Ambrus Group’s Kris Sidial, among many others.

Disclaimer

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

Categories
Commentary

Daily Brief For July 19, 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!

Graphic updated 6:50 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. Breadth reflects a reading of the prior day’s NYSE Advance/Decline indicator. VIX reflects a current reading of the CBOE Volatility Index (INDEX: VIX) from 0-100.

Fundamental

After the release of data on consumer prices, earlier this month, the belief was that a de-rate, on inflation, was, potentially, nearing an end, although it was likely to remain at a “higher level than we’ve seen historically,” per the likes of Chevron Corporation’s (NYSE: CVX) CEO Mike Wirth.

Read: National Association of Homebuilders (NAHB) Housing Market Index (HMI) sees record decline. Rental markets cooling. Foreign buying jumps. Food to be the ultimate weapon in the 21st century.

Graphic: Retrieved from Randy Woodward. “Bloomberg commodities index vs. headline CPI.”

Now comes an even deeper compression on earnings?

Graphic: Retrieved from Callum Thomas. “Clear downward momentum in earnings revisions, only 33% of analyst earnings estimates have been revised upward (i.e. the rest downward) — matches the worsening macro.”

Well, maybe. Based on executives’ perspectives, we’re probably “talking ourselves into a recession,” precisely what the likes of Robert Shiller have expressed worry on.

Accordingly, participants are now pricing in shaky earnings, selling the stock of Goldman Sachs Group Inc (NYSE: GS), Apple Inc (NASDAQ: AAPL), and beyond, on those firms’ preparations for an increased potential for an economic downturn.

Up until this week, the Nasdaq 100 (INDEX: NDX) was doing better, consolidating for a potential break above a key response area, like the S&P 500 (INDEX: SPX), highlighted in a section further below.

It failed after the release of earnings from some index heavyweights.

Graphic: Retrieved from Bloomberg. “The Nasdaq 100, down 27% for the year so far, had briefly managed to get above its 50-day moving average on Monday, suggesting that the relentless downward trend was over — but the index failed to stay there, thanks in large part to Apple.”

Pessimism is incredibly strong among investors, however, a sort-of contrarian signal.

In spite of some Bank of America Corporation (NYSE: BAC) indicators pointing to poor fundamentals, sentiment is suggestive of a looming “stocks/credit rally in coming weeks.”

Graphic: Retrieved from Bloomberg. “Investors slashed their exposure to risk assets to levels not seen even during the global financial crisis in a sign of full capitulation amid a “dire” economic outlook, according to Bank of America Corp.’s monthly fund manager survey.”

Positioning

Though we’re far more than halfway through a dot-com type collapse that’s happened “underneath the surface of the indices,” per Simplify Asset Management’s Mike Green, still-strong passive flows continue to support the largest stocks within the indexes.

Graphic: Retrieved from The Market Ear. Via Barclays PLC (NYSE: BCS).

At the same time, options volumes show traders concentrating less on bullish strategies in the single stocks, while the index flows remain steady.

Graphic: Via Deutsche Bank AG (NYSE: DB).

Looking at skew on something like the tech- and growth-heavy Nasdaq 100 (INDEX: NDX), our comments in prior letters (regarding volatility supply from the re-hedging of defensive structures on the put side and volatility demand on the call side from the positioning for a reversal) appear still valid.

Read: Daily Brief for July 15, 2022.

Therefore, spread opportunities still exist and remain attractive.

Graphic: Via Charles Schwab Corporation-owned (NYSE: SCHW) TD Ameritrade’s Thinkorswim. Skew resembles more of a smile, rather than a smirk.

Read: Trading Volatility, Correlation, Term Structure and Skew by Colin Bennett.

Technical

As of 6:45 AM ET, Tuesday’s regular session (9:30 AM – 4:00 PM ET), in the S&P 500, is likely to 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.

Any activity above the $3,867.25 LVNode puts into play the $3,895.00 VPOC. Initiative trade beyond the VPOC could reach as high as the $3,909.25 MCPOC and $3,943.25 HVNode, or higher.

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

Any activity below the $3,867.25 LVNode puts into play the $3,829.75 MCPOC. Initiative trade beyond the MCPOC could reach as low as the $3,800.75 LVNode and $3,770.75 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: Responsiveness near key-technical areas (that are discernable visually on a chart), suggests technically-driven traders with short time horizons are very active. 

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

Definitions

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

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

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

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, former Bridgewater Associate Andy Constan, Kai Volatility’s Cem Karsan, The Ambrus Group’s Kris Sidial, among many others.

Disclaimer

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

Categories
Commentary

Daily Brief For July 6, 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!

Graphic updated 6:25 AM ET. Sentiment Neutral if expected /ES open is inside of the prior day’s range. /ES levels are derived from the profile graphic at the bottom of the following section. Levels may have changed since initially quoted; click here for the latest levels. SqueezeMetrics Dark Pool Index (DIX) and Gamma (GEX) calculations are based on where the prior day’s reading falls with respect to the MAX and MIN of all occurrences available. A higher DIX is bullish. At the same time, the lower the GEX, the more (expected) volatility. Learn the implications of volatility, direction, and moneyness. 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: Impressive was the strength of the Nasdaq 100 (INDEX: NDX), relative to the S&P 500 (INDEX: SPX), yesterday. 

Graphic: Via Charles Schwab Corporation-owned (NYSE: SCHW) TD Ameritrade’s Thinkorswim. Retrieved by Physik Invest.

This is as traders are now paring back their bets on monetary tightening, given the deterioration in the U.S. economic outlook. The NDX, which has been most sensitive to changes in monetary policies, accordingly, responded best as that index is comprised of assets that have the most to lose in a high-rate, aggressive quantitative tightening (QT) environment.

Graphic: Via Bloomberg. “In less than two weeks, the market has dropped its prediction for a peak rate brought forward the moment of the first cut, and forecasts a far more aggressive cutting program that will start next spring.”

For context, QT is the central banking authorities’ removal of balance sheet assets via sales or the non-reinvestment of the principal sum of maturing securities. Accordingly, if bonds are sold, their values fall and yields rise. This pushes yield-hungry investors into less risky categories.

Graphic: Retrieved from @patrick_saner. “A 60/40 portfolio is now worth less than before the pandemic.”

“As you look at where to park your cash for the next six months, you could do worse than to look at a mix of oversold treasuries and stocks – offering both compelling yield and a good degree of value protection,” explains Toggle CEO Jan Szilagyi in a note.

Graphic: Via Toggle.

These are comments, however, in the face of what has been a “multiple compression,” as we talked about last week. The upcoming earnings season is likely to shed clarity with respect to corporates’ ability to weather or pass on higher costs, among other things.

In the case of a so-called “earnings compression,” some commentators suggest the market is not priced correctly and another leg lower may be initiated.

Adding, expected are the Federal Open Market Committee (FOMC) meeting minutes, today. 

They are likely to “indicate that policymakers were worried about the un-anchoring of inflation expectations, … justifying the Fed’s shift in placing more focus on headline inflation measures rather than just core measures,” according to Bloomberg’s chief U.S. economist Anna Wong.

Graphic: Via Bloomberg. “After surging consistently to hit an all-time high in the two years after the March 2020 shutdown, the [Commodity Research Bureau Raw Industrials index] turned sharply southward.”

Positioning: Data shows net gamma exposure increasing which may increasingly feed into smaller ranges if prices continue to rise.

Further, continued are gaps between volatility measures for the rates and equity markets. This is, in part, due to the supply of volatility, as we’ve talked about in past commentaries.

The Ambrus Group’s Kris Sidial adds: “Another reason why equity vol on the index level has been so well offered is due to the structured products market continuing its dominance.”

“Investors are turning to alternatives in this market & these solutions continue to gain attention which leads to index level vol selling.”

Graphic: Via The Ambrus Group’s Kris Sidial. “[S]ome dealers will opportunistically look to sell vol in some buckets in the front of the term structure.”

Given this, the relationship between realized volatility (RVOL) has crept and, at times, exceeded that which the market has implied (IVOL). This, coupled with naive metrics for skew, suggests to us that it still makes sense to be a buyer of volatility, albeit via more complex structures.

Graphic: Via Pat Hennessy. “Tomorrow’s SPX expo (Jul1) is wildin… 26 vol for any strike with a 37 or 38 handle with a ridiculous curvature in the tails. God speed to all the 1dte theta gang. Selling OTM puts/calls for the same vol as ATM seems… umm… not good.”

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

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

Any activity above the $3,821.50 LVNode puts into play the $3,857.25 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.

Any activity below the $3,821.50 LVNode puts into play the $3,793.25 HVNode. Initiative trade beyond the HVNode could reach as low as the $3,755.00 VPOC and $3,727.75 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

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

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

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

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

About

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

Capelj 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, former Bridgewater Associate Andy Constan, Kai Volatility’s Cem Karsan, The Ambrus Group’s Kris Sidial, among many others.

Disclaimer

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

Categories
Commentary

Daily Brief For June 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 auctioned higher, inside of the prior range, with bonds. Commodities were mixed and implied volatility measures were bid.

Yields fell after comments by Federal Reserve (Fed) Chair Jerome Powell and growth updates in Europe stoked fears of a global downturn, per Bloomberg, as the prospects of a soft-landing look “very challenging.” 

“Financial conditions have tightened and priced in a string of rate increases and that’s appropriate,” Powell said. “We need to go ahead and have them.”

Today we’ll dive into positioning – what’s promoting responsive trade – and how to think about the market, accordingly.

Ahead is data on jobless claims and current account (8:30 AM ET), as well as S&P Global Inc (NYSE: SPGI) manufacturing and services PMI (9:45 AM ET), followed by the Federal Reserve (Fed) Chair Jerome Powell’s testimony (10:00 AM ET).

Graphic updated 7:50 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

Positioning: Fed Chair Powell added clarity to the central bank’s stance on policy, and its intent to tighten without pushing the economy into a recession, which we’ve argued we’re already in. 

Graphic: Via Morgan Stanley (NYSE: MS).

“The other risk, though, is that we would not manage to restore price stability and that we would allow this high inflation to get entrenched in the economy,” Powell said. “We can’t fail on that task. We have to get back to 2% inflation.”

The peak of the Fed-rate-hike cycle – terminal rate – now sits at December 2022.

Graphic: Via Charles Schwab Corporation-owned (NYSE: SCHW) TD Ameritrade’s Thinkorswim. The Eurodollar (FUTURE: /GE) futures curve is a reflection of participants’ outlook on interest rates. The peak of the Fed-rate-hike cycle – terminal rate – is around DEC 2022.

A feature of the equity sell-off is the suppression of implied volatility (IVOL) versus that which the market realizes (RVOL).

Graphic: Taken by Physik Invest from Interactive Brokers Group Inc (NASDAQ: IBKR). The divergence in IVOL by participants’ options activity, versus RVOL, continues to resurface in the S&P 500 via the SPDR S&P 500 ETF Trust (NYSE: SPY).

As talked about before, participants are hedged and volatility remains in strong supply. Options data and insights platform SqueezeMetrics explains that this is due in part to lower leverage.

Graphic: Via SpotGamma’s Hedging Impact of Real-Time Options (HIRO) indicator points to selling of put and call options in the S&P 500 (INDEX: SPX) and S&P 500 ETF (SPY). Those liquidity providers, who are on the other side, are more exposed to long volatility, which they hedge by buying (selling) into weakness (strength) underlying.

“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.

Accordingly, it remains profitable to own options structures.

“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,” Dennis Davitt of Millbank Dartmoor Portsmouth explains.

Read: Daily Brief for May 24, 2022.

Graphic: Via Millbank Dartmoor Portsmouth.

How to play?

IVOL is bid and at a “higher starting point,” as I described in a SpotGamma note. Noteworthy, too, was the change in tone with respect to the non-linearity and strength of volatility with respect to linear changes in asset prices.

Read: Daily Brief for June 16, 2022.

In the current environment, we have to ask ourselves what would hurt participants the most?

It’d likely be forced selling or demand for protection by a greater share of the market in ways not seen. The associated repricing of IVOL would be a boon for those who own options, particularly in strikes further from current prices where there is a ton more convexity in volatility.

Graphic: Taken by Physik Invest from Interactive Brokers Group Inc (NASDAQ: IBKR). SPDR S&P 500 ETF Trust (NYSE: SPY) implied volatility skew, or the difference in IVOL – an estimate of potential price changes given the fear of movement – between options strikes that are close and far from the underlying’s current price. Notice the sensitivity of this curve farther out.

Still, with volatility at that higher starting point, many have exposure to positive delta (options that increase in value if the market goes up, all else equal) and gamma (the amplification of profits as the underlying continues to trade higher). 

That (insignificant) demand in the right tail still makes it so we may position, for cheap, in spread structures that still offer attractive and asymmetric payouts (e.g., 500 to 1000 point wide Nasdaq 100 butterflies and ratio spreads maturing up to 20 or 30 days out).

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, 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, 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 $3,787.00 VPOC puts in play the $3,821.50 LVNode. Initiative trade beyond the LVNode could reach as high as the $3,843.00 RTH High and $3,911.00 VPOC, or higher.

In the worst case, the S&P 500 trades lower; activity below the $3,787.00 VPOC puts in play the $3,735.75 HVNode. Initiative trade beyond the $3,735.75 HVNode could reach as low as the $3,696.00 LVNode and $3,639.00 RTH Low, or lower.

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

Considerations: The SPDR S&P 500 ETF Trust (NYSE: SPY) is above the convergence of a key anchored volume-weighted average price level and retracement.

In the case of a continued downside, that is an area where participants may see a response.

Graphic: Via TradingView. Taken by Physik Invest. SPDR S&P 500 ETF Trust (NYSE: SPY).

Definitions

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

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

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

Balance (Two-Timeframe Or Bracket): Rotational trade that denotes current prices offer favorable entry and exit. Balance areas make it easy to spot a change in the market (i.e., the transition from two-time frame trade, or balance, to one-time frame trade, or trend). 

Modus operandi is responsive trade (i.e., fade the edges), rather than initiative trade (i.e., play the break).

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 17, 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

Update: Technicals section now reflects the proper overnight inventory stat.

After a week-long or so de-rate to reflect the impact of higher inflation and harsher monetary policies, equity index futures are trading in a responsive fashion. 

The S&P 500, in particular, lies pinned against the $3,700.00 high options open interest strike. The large June monthly options expiration has implications on the expansion of the range, as noted in prior letters.

The newsflow remains depressing. Taken alone, you’d think the Federal Reserve (Fed) would be “soft[ly] landing” us into a depression, just in time for WWIII to help us get out of it. 

Kidding. The utmost sympathy for those negatively affected by war and economic hardship.

The distinction between the economy and the market is blurred and the drop is the recession. The equity markets are a mechanism pricing the implications of all the points we talk about, in real-time, months (6-12) in advance.

Given that, there are better measures to assess whether a de-rate has played out, fully. In the last session, information, generated by the market – internals, volatility measures, and the like – suggested to us that more selling was in store, all the while there was a definite change in tone in the non-linear strength of volatility and skew with respect to linear changes in price of assets.

Should you care for the narratives in news, then here it is:

The Bank of England (BOE) pointed to the potential for a more aggressive rate hike schedule if data were to reflect a wage spiral. The Swiss National Bank (SNB) upped rates an unexpected 50 basis points. The White House weighed fuel-export limits. Both residential permitting and housing starts plummeted with the 30-year fixed-rate breaching 6.00%. 

Adding, U.S. junk bond spreads topped 500 basis points for the first time since 2020, and China, also, launched its third most modern aircraft carrier. 

Ahead, Fed Chair Jerome Powell speaks at 8:45 AM ET. Then updates on industrial production and capacity utilization (9:15 AM ET), as well as leading economic indicators (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

Team. We’re going to have to keep it a bit shorter, today, and leave out the fundamentals section. Sorry!

Read: Daily Brief for June 16, 2022, on monetary updates and the implications of positioning.

In a nutshell, and this is borrowing from a past post-Federal Open Market Committee (FOMC) event letter, as well put forth by Kai Volatility’s Cem Karsan, on a Fed day, “the first move tends to be structural. A function of the inevitable rebalancing of dealer inventory post-event.”

Graphic: Via SpotGamma’s Hedging Impact of Real-Time Options (HIRO) indicator alluded to counterparty buyback of static short delta hedges to positive delta options exposures.

“The second move and final resolution, if you wait for it, is usually tied to the incremental effects on liquidity (QE/QT).”

Essentially, the baseline bear trend held because, essentially, the Fed is, indeed, expected to continue raising rates and withdrawing liquidity. This will prompt a continued de-rate with QT being “a direct flow of capital to capital markets.”

Graphic: Via Charles Schwab Corporation-owned (NYSE: SCHW) TD Ameritrade’s Thinkorswim. The Eurodollar (FUTURE: /GE) futures curve is a reflection of participants’ outlook on interest rates. The peak of the Fed-rate-hike cycle – terminal rate – is around March 2023.

Great, moving on. What’s next?

Essentially, with the June monthly options expiration (OPEX), expected is a roll-off of a large amount of customer negative delta exposure (via put options they own). Taken in a vacuum, with expiration, liquidity providers (who are short put options and short underlying to hedge) will re-hedge (buyback static short-delta, among other things), and this is taken as bullish.

Graphic: Via SpotGamma. “While many of these put positions could be paired off with other offsetting positions (i.e. netting out some of this delta), we remain of the opinion that a lot of these put positions are investor short hedges which will be rolled out and down on OPEX. This means that large ITM puts will be exchanged for OTM puts, which creates a short delta hedge imbalance for dealers (i.e. they need to cover short futures). This is what may drive the OPEX-related rally.

However, this is definitely discounting the impact on delta from participants rolling forward their bets on direction.

Graphic: Via Shift Search. Participants, mainly sell to close their short-dated bets on the downside while buying to open those that are further out in time and lower in price.

As talked about yesterday, we were to gauge the delta impact by how far below the high open interest strikes the equity indexes were to travel. As stated, these options, have little time to expiry and, thus, their gamma (the sensitivity of the option to change indirection) grows rather large, at near-the-money strikes.

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

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.

This means that if far below these high-interest strikes, associated hedging, less any new reach for protection would keep markets pressured. If above, hedging, less new sales of protection, would bolster markets higher.

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.”

Ultimately, if lower, all else equal, the June 17 OPEX will coincide with the removal of the in-the-money options exposures in question. Negating the rollover of exposures and leaving the door open to some delta imbalance (need to buy to re-hedge exposure) suggests that after this expiration, markets may have less pressure to rally against. 

“The SPX index quarterly option notional is higher than usual, but the market is below the concentration of risk given the recent selloff,” Tanvir Sandhu, chief global derivatives strategist at Bloomberg Intelligence, wrote in a note. “Price action will reflect the economic context, but flows from expiring in-the-money hedges may support the market.”

What do you do with this information?

Well, recall that we’ve talked ad nauseam about the supply and demand of volatility, as well as how that impacted the volatility realized (RVOL) and implied (IVOL) by the market.

Graphic: Taken by Physik Invest from Interactive Brokers Group Inc (NASDAQ: IBKR). The divergence in volatility implied (IVOL) by participants’ options activity, versus that which the market realizes (RVOL) resurfaced on June 15, 2022, in the Nasdaq 100 (INDEX: NDX).

Essentially there was an “absolute slamming” (i.e., sale of options), particularly in shorter-dated tenors and this played into the generally poor performance in skew, hence our comments on the benefit to buying into implied skew convexity should volatility reprice.

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.

Basically, participants are hedged and volatility remains well-supplied. 

To hedge or capitalize on a potential reach for protection, amid forced selling or demand for protection by a greater share of the market in ways not recently seen, then the repricing in those structures would be a boon to those that own them.

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

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, as touched on in this morning’s introduction, there was a definite change in tone in the non-linear strength of volatility and skew with respect to linear changes in the price of assets.

Personally, I, along with a partner who I trade closely with, saw increases in the prices of ratio structures (long or short one option near-the-money, short or long two or more further out-of-the-money) by hundreds of percent for only a few basis points of change in the indexes.

As Karsan explained online, there was “a spike in short-dated -sticky skew, [the] first we’ve seen since [the] secular decline began and it hints [at] a potentially critical change in dealer positioning [and] the distribution of underlying outcomes.”

“We’re transitioning to a fat left tail, right-based distribution.”

Graphic: Via English Stack Exchange. Visualizing the transition to a fat left tail and right-based distribution that is skewed negative (i.e., the green distribution).

So why does any of this matter?

This is a validation of our perspectives on how one should position, given what the supply and demand of volatility looked like prior.

Options have a “non-zero second-order price sensitivity (or convexity) to a change in volatility,” as Mohamed Bouzoubaa et al explain well in the book Exotic Options and Hybrids.

“ATM vanillas are [not] convex in the underlying’s price, … but OTM vanillas do have vega convexity … [so], when the holder of an option is long vega convexity, we say she is long vol-of-vol.”

In other words, by owning that protection, you are positioned to monetize on a continued non-linear repricing of volatility. However, doing this in a manner that cuts decay (when nothing happens) is the difficult part.

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

Graphic: Sourced via Towards AI. Skewness and kurtosis cheat sheet.

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 positively skewed overnight inventory, inside 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 $3,688.75 HVNode puts in play the $3,727.75 HVNode. Initiative trade beyond the $3,727.75 HVNode could reach as high as the $3,773.25 HVNode and $3,808.50 HVNode, or higher.

In the worst case, the S&P 500 trades lower; activity below the $3,688.75 HVNode puts in play the $3,664.25 HVNode. Initiative trade beyond the $3,664.25 HVNode could reach as low as the $3,610.75 HVNode and $3,587.25 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.

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.

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 16, 2022

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

What Happened

Overnight, equity index futures took back the post-Federal Open Market Committee (FOMC) bump. Bonds and most commodity products (less gold) followed suit. 

The Federal Reserve (Fed) admitted to run-away prices and committed to slaying inflation via tougher action. Accordingly, the central bank upped interest rates by 75 basis points. This was the largest increase since 1994 and, as the Fed commented, another 75 basis point hike may be in store at the next meeting in July.

In other news, the Celsius Network (CRYPTO: CEL), a crypto favorite that amassed in excess of $20 billion in assets, froze withdrawals to stop what some say was a potential bank run. Private equity is facing a so-called “crisis of value” given over inflated prices in that market. 

We shall unpack the latter, below, a bit.

Also, U.S. retail sales posted their first drop in five months, the Bank of England raised its rates along with the Swiss central bank which surprised with its first hike since 2007.

This is all the while Goldman Sachs Group Inc’s (NYSE: GS) buyback desk was flooded with volumes about 3 times last year’s daily average. This could be construed as companies viewing the latest selloff as an “opportunity to repurchase shares rather than retrenching.”

Ahead is data on jobless claims, building permits, housing starts, as well as the Philadelphia Fed’s manufacturing index (8:30 AM 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: Fed funds rate upped 75 basis points. 

Now, it appears the rate will surpass 3% after the FOMC affirmed its commitment “to returning inflation to its 2% objective.” Participants reacted, pricing in the potential for a rate peak in the range of 4.00-4.75% early-to-mid 2023, after which the easing cycle is to likely take place.

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

The overnight rate is expected to peak near 4.23% by mid-2023. This is a given via a quick check of the Eurodollar (FUTURE: /GE) futures curve, a reflection of participants’ outlook on interest rates. The peak of the Fed-rate-hike cycle – terminal rate – is around March 2023 (previously it was June).

For context, the price of /GE reflects the interest offered on U.S. dollar-denominated deposits at banks outside of the U.S. With that, they’re “expressed numerically using 100 minus the implied 3-month U.S. dollar LIBOR interest rate,” per Investopedia. This means that at current March 2023 prices (95.775), this reflects an implied interest rate settlement rate of 4.225%.

Read: The shift from the Eurodollar to SOFR is accelerating as “SOFR adoption cracked 50%.”

Moreover, the FOMC’s forecasts for inflation have moved all the while predictions for 2023 and 2024 have not. 

Graphic: Via FOMC. Taken from Bloomberg.

GDP growth estimates, too, have shifted but with the expectation there still will be growth.

Graphic: Via FOMC. Taken from Bloomberg.

As stated in this morning’s introduction (above), these policy adjustments are inflicting damage on some inflated areas of the market like crypto and private equity.

Recall that prevailing monetary policies made it easier to borrow and make longer-duration bets on ideas with a lot of promise in the future. Central banks, too, underwrote losses of this regime and encouraged continued growth. This had consequences on the real economy and asset prices which rose and kept deflationary pressures at bay.

As well put forth in our May 18, 2022 commentary, the recent market rout is a recession and the direct reflection of the unwind of carry. Capital was “misallocated” and the Fed’s move to control price stability is “completely unreasonable” as they’re not in a position to do it “without bringing down the markets,” per Kai Volatility’s Cem Karsan.

Read: Kris Abdelmessih’s Moontower #148 on prevailing macroeconomic perspectives.

As Lyn Alden of Lyn Alden Investment Strategy put forth, “unfortunately for the Fed, the U.S. economic growth rate is already decelerating” and, to cut inflation, it must reduce demand for goods. Indeed, this is recessionary and is already reflected by slowing retail sales.

Graphic: Via Bloomberg. “As price pressures become more entrenched in the economy, spending will likely ebb either due to higher prices, higher interest rates, or both.”

As Bloomberg explains, spending has shifted and is supported by consumers spending down their savings and leveraging credit cards. 

Read: Klarna’s debt costs rise as buy-now-pay-later sector suffers.

Graphic: Via Bloomberg. This “could be concerning if Americans fail to keep up on payments. That could ultimately mean a slowdown in the pace of inflation-adjusted consumption.”

“If this credit bubble ever pops, it’s going to be the most catastrophic market failure that anyone has ever read about — but let’s hope that doesn’t happen,” Mark Spitznagel, Miami-based Universa’s CIO, said in early June. “We’ve gotten ourselves into a tough spot.” 

Perspectives: “The move in markets prices in more than enough recession risk, and we believe a near-term recession will ultimately be avoided thanks to consumer strength, Covid reopening/recovery, and policy stimulus in China,” JPMorgan Chase & Co’s (NYSE: JPM) Marko Kolanovic and his team said

Positioning: Measures of implied volatility had come in, yesterday, and that was significant in that participants have a lot of exposure to put options.

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

Further, (naively) we see it as liquidity providers being short those puts. As volatility continues to come in, the exposure of those options to direction (delta) compresses. 

As a result, liquidity providers cut some of their negative (static) delta hedges to that positive delta put position.

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.”

This means that the potential options expiration (OPEX) related bullishness, so to speak, was pulled forward and, now, markets, being markedly lower than they were immediately after the FOMC event, are at risk of trading into (and below) the sizeable interest down below.

Read: Daily Brief for June 15, 2022.

Graphic: Taken by Physik Invest from Interactive Brokers Group Inc (NASDAQ: IBKR). Updated 6/15/2022.

As stated, yesterday, these options, down below, 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. 

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.

This means that if below these high-interest strikes, associated hedging, less any new reach for protection would pressure markets lower. If above, hedging, less new sales of protection, would bolster markets higher.

Ultimately, if lower, all else equal, the June 17 OPEX 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.

Bonus: As SpotGamma explains, “​​[g]iven the supply and demand of volatility, as well as divergences in the volatility that the market realizes and implies from options activity, there’s a case to be made for maintaining positive exposure to direction via long volatility.”

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

Graphic: Taken by Physik Invest from Interactive Brokers Group Inc (NASDAQ: IBKR). The divergence in volatility implied (IVOL) by participants’ options activity, versus that which the market realizes (RVOL) resurfaced on June 15, 2022, in the Nasdaq 100 (INDEX: NDX).

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

In the best case, the S&P 500 trades higher; activity above the $3,688.75 HVNode puts in play the $3,727.75 HVNode. Initiative trade beyond the $3,727.75 HVNode could reach as high as the $3,773.25 HVNode and $3,808.50 HVNode, or higher.

In the worst case, the S&P 500 trades lower; activity below the $3,688.75 HVNode puts in play the $3,664.25 HVNode. Initiative trade beyond the $3,664.25 HVNode could reach as low as the $3,610.75 HVNode and $3,587.25 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.

What People Are Saying

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.

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 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, equity indices probed higher, above Thursday’s trade, which established a new swing low. The Cboe Volatility Index (INDEX: VIX) fell while yields were bid and commodities mixed.

Today, we’ll get into some key narratives including crypto turmoil and financial conditions, as well as a validation of some of our trade theses.

Ahead is data on import prices (8:30 AM ET), University of Michigan consumer sentiment and inflation expectations (10:00 AM ET), as well as Fed-speak by Neel Kashkari (11:00 AM ET).

Take care and watch your risk.

Graphic updated 6:40 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: In the news, panic in the cryptocurrency markets eased and Tether (CRYPTO: USDT-USD), the world’s largest stablecoin, backed by commercial paper and U.S. Treasuries, climbed back to par.

JPMorgan Chase & Co’s (NYSE: JPM) Teresa Ho said there would be little impact on traditional funding markets while, according to Barclays PLC’s (NYSE: BCS) Joseph Abate, redemptions in Tether, which has a market value just shy of $90-100 billion, would only “cause meaningful strains in money markets should they exceed half of the stablecoin’s total holdings.”

Graphic: Via Bloomberg.

Also in the news are rising interest rates (e.g., mortgage rates up to ~5.30%) and a weak equity market (e.g., S&P 500 lower ~20%), among other things, feeding into a tightening of financial conditions (which is how monetary policy impacts the economy).

Graphic: Via Bloomberg.

“Financial conditions for households and businesses wanting to borrow or raise capital tightened again last week and are the most restrictive since the first wave of the pandemic in 2020 and before that 2012,” Reuters’ John Kemp said.

Graphic: Via John Kemp.

This is as inflation has become “deeply embedded,” spreading from the energy and raw materials-intensive merchandise sector to services.

Graphic: Via John Kemp.

“Rapid service sector price increases usually signal the imminent arrival of a recession,” Kemp said, pointing to decisions by some public companies like Uber Inc (NYSE: UBER), Twitter Inc (NYSE: TWTR), and Amazon Inc (NASDAQ: AMZN) to slow growth and cut labor forces as a validation of slowing momentum.

Graphic: Via Bloomberg. “I think we’re primed for a big distressed supply surge,” said Phil Brendel, a distressed debt analyst for Bloomberg Intelligence. “Everyone gets comfortable and complacent on credit and then when it turns, you tend to see these massive spikes.”

The accelerated selling of equities (~$6.2 billion), bonds (~11.4 billion), cash (~$19.7 billion), and some commodities (~$1.8 billion in gold), over the last week, per Bank of America Corporation’s (NYSE: BAC) Michael Hartnett is capitulation. 

“The definition of true capitulation is investors selling what they love,” Hartnett said, gauging the prospects that stocks have hit a near-term bottom. “Fear and loathing suggest stocks are prone to an imminent bear market rally, but we do not think ultimate lows have been reached.”

Positioning: In past commentaries, we talked about ways to play a returns distribution that is skewed to the upside (albeit, with large negative outliers).

Graphic: Via Physik Invest. Data retrieved from SqueezeMetrics. A higher DIX/GEX ratio has historically been associated with S&P 500 outperformance in the subsequent month. A very low DIX/GEX ratio has historically been associated with positive S&P 500 performance in the subsequent month, though there are many more negative outliers.

The following Goldman Sachs Group Inc (NYSE: GS) remark is a validation of what we’ve discussed:

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

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

Mainly, zero- and low-cost bets ($0.00-$1.00 debit to open) that deliver asymmetric payouts (sometimes in excess of $10.00 credit to close) in case of violent and short-lived reversals. 

Personally, this letter’s author is structured positive delta and gamma in the Nasdaq 100 (INDEX: NDX) via ratios spread (1×2) and butterfly (1x2x1) structures.

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.

As stated before, width and timing are everything. 

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

Ten to fifteen days to expiration and 500-1000 points wide, in the Nasdaq 100 (INDEX: NDX), one of the hardest hit of the indexes, work well. 

An easy check is whether the spread prices for a debit or credit to close if the underlying moves to the long strike of the spread, all else equal.

Debits (which may run as low as $0.00, depending on trade location) can be offset with credits from put sales.

Graphic: Chart of the Nasdaq 100 (INDEX: NDX).

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, outside of prior-range and -value, suggesting a higher potential for immediate directional opportunity.

In the best case, the S&P 500 trades higher; activity above the $3,978.50 low volume node (LVNode) puts into play the $4,011.00 untested point of control (VPOC). Initiative trade beyond the VPOC could reach as high as the $4,069.25 high volume area (HVNode) and $4,119.00 VPOC, or higher.

In the worst case, the S&P 500 trades lower; activity below the $3,978.50 LVNode puts into play the $3,943.25 HVNode. Initiative trade beyond the HVNode could reach as low as the $3,899.00 VPOC and $3,862.75 LVNode, or lower.

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

Considerations: Gap scenarios are 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

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.