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Commentary

Market Commentary For 3/1/2021

Notice: To view this week’s big picture outlook, click here.

What Happened: Overnight, U.S. stock index futures auctioned higher on news of COVID-19 vaccine approvals and stimulus progress.

What Does It Mean: Alongside (1) a material divergence in bond and equity market volatility, as well as (2) a convergence in the 10-year Treasury rate and S&P 500 dividend yield, U.S. stock indexes auctioned lower during regular trade, last week.

Aside from the volatility, the S&P 500’s long-term uptrend, and a skewness toward put options suggests the potential for a near-term turn-around.

What To Expect: Monday’s regular session (9:30 AM – 4:00 PM ET) will likely open inside of prior-balance and -range, suggesting the limited potential for immediate directional opportunity.

Further, because the S&P 500 auctioned above the $3,840.00 high-volume area, or HVNode, attention shifts to the $3,860.75 low-volume area, or LVNode.

More On Volume Areas: A structurally sound market will build on past areas of high-volume. Should the market trend for long periods of time, it will lack sound structure (identified as a low-volume area which denotes directional conviction and ought to offer support on any test). 

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

In the best case, the S&P 500 is able to auction and maintain prices above the $3,860.75 LVNode, formed by earlier selling forces.

Auctioning beyond that reference suggests near-term conviction has changed; participants would look for responses at the $3,907.75 HVNode, an area that would offer initiative buyers (responsive sellers) favorable exit (entry).

In the worst case, the S&P 500 auctions below the $3,840.00 HVNode.

In such case, initiative sellers would be emboldened; participants may look to repair the gap below $3,785.00.

Levels Of Interest: $3,860.75 LVNode.

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Commentary

Market Commentary For The Week Ahead: ‘Missed Approach’

Key Takeaways:

  • High doses of stimulus yet to be fully felt.
  • Hedge funds add to long, short exposure.
  • Economies eye growth, uneven recovery.
  • Powell kept stressing inflation downsides.
  • Traders price in a quarter-point rate hike.
  • 10-yr yield, S&P 500 dividend yield cross.
  • Bond, equity market volatility separations.
  • JPMorgan does not see a market bubble.

What Happened: U.S. stock index futures auctioned lower.

This came alongside (1) a material divergence in bond and equity market volatility, as well as (2) a convergence in the 10-year Treasury rate and S&P 500 dividend yield.

What Does It Mean: Equity traders began pricing in the risk of a rapid move up in rates, due to concerns over bond values, as a result of rising debt levels and inflation.

Additionally, the yield on a 10-year Treasury, a risk-free asset, which was — per Axios — “artificially depressed by the flight-to-quality trade during the coronavirus pandemic, as well as by large-scale purchases by the Federal Reserve,” converged with S&P 500’s dividend yield.

Typically, the S&P 500’s dividend yield is less than the risk-free rate because investors expect to earn less in dividends than they would holding the same amount in bonds, absent rising stock prices.

Values are derived using the discounted cash flow calculation; as interest and discount rates go up, the present value of future earnings goes down, which will drag stock prices, especially in growth categories, as seen.

Still, despite the pricing in of rising debt levels and inflation, a divergence in bond and equity market volatility persists. In such a case, market participants ought to widen their outlook; there is some potential for risk asset capitulation in the present down cycle.

Graphic 1: Divergence in volatility across the bond and equity market. 

Moving on, it’s important to take note of the market’s unpinning, after February’s monthly options expiration (i.e., OPEX), as well as the long-term trend.

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

Aside from OPEX, last week’s volatility did not disrupt the S&P 500’s long-term uptrend (Graphic 2), and a skewness toward put options — evidenced by Graphic 3 and market gamma — suggests the potential for a near-term turn-around.

Graphic 2: Long-term uptrend in the cash-settled S&P 500 Index (INDEX: SPX) is intact.
Graphic 3: Physik Invest maps out the purchase of call and put options in the SPDR S&P 500 ETF Trust (NYSE: SPY), for the week ending February 26, 2021. Noting activity in short- and long-dated tenors, near the $380, a strike that corresponds with $3,800.00 in the cash-settled S&P 500 Index (INDEX: SPX).

What To Expect: Directional resolve, given the S&P 500’s rotation near a prominent high-volume area, or HVNode (Graphic 4), and an overnight rally-high at $3,959.25.

More On Overnight Rally Highs: Typically, there is a low historical probability associated with overnight rally-highs ending the upside discovery process.

More On Volume Areas: A structurally sound market will build on past areas of high-volume. Should the market trend for long periods of time, it will lack sound structure (identified as a low-volume area which denotes directional conviction and ought to offer support on any test). 

If participants were to auction and find acceptance into areas of prior low-volume, then future discovery ought to be volatile and quick as participants look to areas of high-volume for favorable entry or exit.
Graphic 4: 4-hour chart of the Micro E-mini S&P 500 Futures.

What To Do: In coming sessions, participants will want to pay attention to the VWAP anchored from the $3,959.25 peak and $3,657.00 low, as well as the $3,840.00 HVNode.

Volume-Weighted Average Prices (VWAPs): Metrics 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.

In the best case, the S&P 500 opens and remains above the $3,840.00 volume area.

Additionally, auctioning above the $3,875.75 VWAP would suggest buyers, on average, are in control and winning, since the February 15 rally high.

Auctioning beneath $3,785.00 would (1) leave the $3,840.00 HVNode as an area of supply — offering initiative sellers favorable entry and responsive buyers favorable exit — and (2) portend repair of poor structures (e.g, the $3,785.00-$3,777.00 gap) left in the wake of a prior advance.

In such a case, participants should look to the next area of high-volume (i.e., $3,794.75 and $3,727.75) for favorable entry and exit.

Graphic 5: Profile overlays on a 65-minute candlestick chart of the Micro E-mini S&P 500 Futures.

Conclusions: The go/no-go level for next week’s trade is $3,840.00.

Any activity at this level suggests market participants are looking for more information to base their next move. Anything above (below) this level increases the potential for higher (lower).

Levels Of Interest: $3,840.00 HVNode.

Photo by Sohel Patel from Pexels.

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Commentary

Market Commentary For 2/18/2021

Notice: To view this week’s big picture outlook, click here.

What Happened: U.S. stock index futures balanced within prior range, ahead of releases on weekly jobless claims.

What Does It Mean: After a v-pattern recovery and sideways trade in the weeks prior, stock index futures auctioned out of prior-balance and -range, via Friday’s end-of-day spike.

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

Since then, the S&P 500 had difficulty in maintaining higher prices.

At the end of regular trade Wednesday, the aforementioned spike and shift from balance (i.e., the transition from two- to one-time frame trade) was accepted. Overnight, however, the market rotated back into the meat of Wednesday’s range, putting in jeopardy the near-term bullish bias. This is likely the resolve of uninspired buying interest during regular trade (as measured by volume delta).

More On Volume Delta: Buying and selling power as calculated by the difference in volume traded at the bid and offer.

Noting, as the bid in volatility drops, demand is seen rising.

That’s according to one statement by Goldman Sachs Group Inc‘s (NYSE: GS) trading desk which said: “CTAs [are] purchasing ~$5B of S&P this week, regardless of what the tape does.”

That statement echoes what JPMorgan Chase & Co (NYSE: JPM) Marko Kolanovic’s said last year. Kolanovic suggested equities would rally short-term with the S&P 500 auctioning as high as $4,000 on the basis of low rates, improved fundamentals, buybacks, as well as systematic and hedge fund strategies. Kolanovic has since downgraded growth and suggested the limited potential for further upside despite odds of a sustained economic recovery.

Important to add also is the large February monthly options expiration (OPEX), after which, the interest at the $3,900.00 S&P 500 option strike will roll-off. 

Why is this important? Option expiries mark an end to pinning (i.e, the theory that market makers and institutions short options move stocks to the point where the greatest dollar value of contracts will expire worthless) and the reduction dealer gamma exposure.

What To Expect: Thursday’s regular session (9:30 AM – 4:00 PM ET) will likely open inside of prior-balance and -range, suggesting the limited potential for immediate directional opportunity.

This comes alongside a resumption of balance, acceptance of higher prices (above a prominent high-volume area), and an overnight rally-high at $3,959.25.

More On Overnight Rally Highs: Typically, there is a low historical probability associated with overnight rally-highs ending the upside discovery process.

More On Volume Areas: A structurally sound market will build on past areas of high-volume. Should the market trend for long periods of time, it will lack sound structure (identified as a low-volume area which denotes directional conviction and ought to offer support on any test). 

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

Given the above dynamics, and the S&P 500’s move back below the $3,919.75 spike base (i.e., Wednesday’s worst case outcome), the following frameworks ought to be applied.

In the best case, the S&P 500 opens and remains above the $3,900.00 confluence zone. Auctioning beneath $3,900.00 turns the high-volume area (HVNode) nearby into supply, offering initiative sellers favorable entry and responsive buyers favorable exit.

So, above $3,900.00, expect balance-to-higher. Below $3,900.00, expect the potential for downside discovery.

Levels Of Interest: $3,900.00 HVNode.

Categories
Commentary

Market Commentary For The Week Ahead: ‘The Flow Won’

Key Takeaways:

What Happened: Amid a volatile, news-heavy week, after a slew of earnings reports by heavily weighted index constituents, and an FOMC meeting that made no change to existing monetary policy, financial markets experienced a rapid de-risking, similar to what transpired prior to the sell-off in February 2020.

What Does It Mean: After extending the S&P 500’s rally, as well as establishing acceptance near the $3,850.00 price extension, an upside target, and excess (i.e., a proper end to price discovery), participants auctioned back into range, repairing poor structures left in the wake of initiative buying.

The action found acceptance below the $3,824.00 – $3,763.75 balance-area, invalidating the prior week’s break-out to new highs.

Since then, market participants were witness to violent two-sided trade, a result of the market transitioning into a short-gamma environment (Graphic 1).

In such case dealers hedge derivatives exposure by buying into strength and selling into weakness. This, will exacerbate volatility.

Graphic 1: SpotGamma data suggests S&P 500 has entered short-gamma environment

In a conversation for a Benzinga article to be released this coming week, I spoke with Kris Sidial, co-chief investment officer at The Ambrus Group, a volatility arbitrage fund, regarding GameStop Corporation (NYSE: GME) share price volatility, market microstructure, and regulation.

According to Sidial, the dynamics that transpired in GameStop can be traced back to factors like Federal Reserve stabilization efforts, and low rates, which incentivize risk taking (see Graphic 2).

“The growth of structured products, passive investing, the regulatory standpoint that’s been implemented with Dodd-Frank and dealers needing to hedge off their risk more frequently, than not,” are all part of a regime change that’s affected the stability of markets, Sidial notes. 

“These dislocations happen quite frequently in small windows, and it offers the potential for large outlier events,” like the equity bust and boom during 2020. “Strength and fragility are two completely different components. The market could be strong, but fragile.”

The aforementioned regime change is one in which dealer exposure to direction and volatility promotes crash up and down dynamics. Last February, the market was heavily one-sided with participants, like target date funds (e.g., mutual funds), selling far out-of-the-money puts on the S&P 500 for passive yield, and investors buying-to-open put options in an increasing amount for downside exposure, thus exacerbating volatility. 

Graphic 2: Newfound Research unpacks market drivers, implications of liquidity.
Graphic 3: SqueezeMetrics highlights implications of volatility, direction, and moneyness.

Last week, per Graphic 4, the SPDR S&P 500 ETF Trust, the largest ETF that tracks the S&P 500, saw a rise in purchases of downside protection with time, which will likely lead to an increase in implied volatility and sensitivity of options to changes in underlying price.

These risks will be hedged off by dealers selling into weakness (see Graphic 3), thereby exacerbating downside volatility.

Graphic 4: Physik Invest maps out the purchase of call and put options in the SPDR S&P 500 ETF Trust, for the week ending January 30, 2021.

The activity was most concentrated in put options with a strike price of $361, corresponding with $3,610 in the cash-settled S&P 500 Index (INDEX: SPX). This, alongside the market’s entry into short gamma, and an inversion of the VIX futures term structure (see Graphic 5), in which longer-dated VIX expiries are less expensive, is a warning of elevated near-term risks for equity market stability.

Graphic 5: VIX Futures Term Structure per vixcentral.com.

What’s more? Aside from breaking technical trend (Graphic 6) is DIX, a proxy for buying derived from short sales (i.e., liquidity provision on the market making side) declining, and the presence of divergent speculative flows and delta (e.g., non-committed buying as measured by volume delta).

Graphic 6: Cash-settled S&P 500 Index experiences technical breakdown.
Graphic 7: DIX by SqueezeMetrics suggests large divergence between price and buying on January 27.
Graphic 8: Divergent Delta in the SPDR S&P 500 ETF (NYSE: SPY), the largest ETF that tracks the S&P 500.

What To Expect: In light of the technical breakdown U.S. stock indexes are best positioned for downside discovery.

As a result, participants ought to zoom out, and look for valuable areas to transact.

Graphic 9: 4-hour profile chart of the Micro E-mini S&P 500 Futures.

In Graphic 9, the highlighted zones denote high-volume areas (HVNodes), which can be thought of as building blocks.

A structurally sound market will build on past areas of high-volume. Should the market trend for long periods of time, it will lack sound structure (identified as a low-volume area which denotes directional conviction and ought to offer support on any test). 

If participants were to auction and find acceptance into areas of prior low-volume, as they have in the week prior, then future discovery ought to be volatile and quick as participants look to areas of value for favorable entry or exit.

Additionally, it’s important to remember what the market’s long-term trajectory is: up.

Late last year, JPMorgan Chase & Co. (NYSE: JPM) strategist Marko Kolanovic suggested equities would rally short-term with the S&P 500 auctioning as high as $4,000 on the basis of low rates, improved fundamentals, buybacks, as well as systematic and hedge fund strategies. Since then, Kolanovic has downgraded growth and suggested the limited potential for further upside despite odds of a sustained economic recovery.

Note, Kolanovic has not called for an implosion in equity markets. Instead, the market is due for some downside discovery given a moderation in the recovery.

Given the above dynamics, the following frameworks apply for next week’s trade.

In the best case, the S&P 500 takes back Friday’s liquidation and auctions above the $3,727.75 HVNode. Expectations thereafter include continued balance.

In the worst case, any break that finds increased involvement (i.e., supportive flows and delta) below the $3,689.50 HVNode, would favor continuation as low as the $3,611.50 and $3,556.00 HVNodes. Note that the second to last HVNode corresponds with the $361 SPY put concentration, which may serve as a near-term target, or bottom, for this sell-off, given last week’s activity at that strike.

Graphic 10: Profile overlays on a 15-minute candlestick chart of the Micro E-mini S&P 500 Futures.

Conclusions: Participants ought to look for favorable areas to transact, such as those highlighted areas in the S&P 500, featured in Graphic 9.

Big picture, the sell-off ought to be bought, just not yet. Per Graphic 11, euphoria is still too high.

Graphic 11: Bank of America Corporation (NYSE: BAC) sentiment indicators.

Levels Of Interest: $3,727.75, $3,689.50, $3,611.50 and $3,556.00 HVNodes.

Cover photo by Pixabay from Pexels.

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Commentary

Market Commentary For The Week Ahead: ‘Follow The Flow’

Key Takeaways:

What Happened: After prices were advertised below balance in the week prior, responsive buyers in the S&P 500 began a rally that found acceptance back inside a larger balance-area, near the $3,800 high-open interest strike.

Thereafter, initiative buyers extended the S&P 500’s rally, breaking the index above its $3,824.25 balance-area high (BAH), before establishing acceptance near the $3,850.00 price extension, an upside target, and auctioning back into range, repairing poor structures left in the wake of discovery.

What Does It Mean: In light of a failed breakdown in the week prior, U.S. stock indexes were best positioned for further downside discovery. However, after what appears to be aggressive buying in response to prices below value, it was clear that was not the case.

This leads to the following question: why did selling stop on January 15? One answer, aside from a positive start to the earnings season and prospects for further stimulus, may be OPEX, the January 15 option expiry. On expiration days, delta and gamma exposures change — depending on how derivatives exposure is removed or rolled — which causes dealers to adjust hedges.

According to SpotGamma, the January 15 expiry “resulted in a ~50% reduction in single stock gamma … [which] creates volatility because, as large options positions expire[], are closed and/or rolled, dealers have large hedges they need to adjust. There is a trove of data to suggest that the bulk of single stock call activity is long calls, and based on that we believe dealers (who are short calls vs long stock) therefore have long stock positions to sell.”

Put more simply, the price action may have been attributable to the sale of long stock that hedged expiring short derivatives exposure above the market (i.e., call side).

Per the SpotGamma S&P 500 dealer hedging graphic for the January 15 expiry below, “The black line was the mark on Thursday evening, with the red line being the forecasted position on Tuesday. This red line being substantially lower than the black suggests that dealers had to reduce delta exposure as a result of expiration. Note there is a larger shift at overhead prices suggesting this was a ‘call heavy’ expiration.”

Graphic 1: SpotGamma S&P 500 dealer hedging graphic for the January 15 options expiry

After the VIX (i.e., CBOE’s Volatility Index) expiry on January 20, alongside the inauguration of President Joe Biden, the prospects for a rally improved as “event premium in IV dries up … [and] put values drop, which allows dealers (who are short puts) to buy back short hedges … [fueling] a quick rally up to the 3850SPX/385SPY level (green arrow).”

Graphic 2: SpotGamma S&P 500 Gamma Levels

Adding, the number of put options sold to open exceeded the number bought to open, per SpotGamma, suggesting increased confidence in higher prices as market participants look to options for income, and not insurance.

Historically, the returns after such developments are mixed — more often the appearance of strong initiative buying surfaces (e.g., August and January 2020) before a liquidation helps correct excess inventory, and bring sense back into the market.

Graphic 3: SpotGamma plots opening option positions.

What To Expect: During Friday’s session in the S&P 500, responsive buying surfaced after a test of the $3,818.25 High-Volume Node (HVNode), above the $3,813.50 ledge (below which is a pocket of low-volume).

In the simplest way, high-volume areas can be thought of as building blocks. A structurally sound market will build on past areas of high-volume. Should the market trend for long periods of time, it will lack sound structure (identified as a low-volume area which denotes directional conviction and ought to offer support on any test).

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

After the S&P 500 found acceptance above the $3,813.50 ledge and $3,824.25 BAH, it encountered responsive selling near the $3,840.75 HVNode, the site of a downtrend line. Since the selling transpired at a visual level, market participants know that technically-driven, short-term traders in control. In other words, institutions (e.g, funds) tend not to transact at exact technical levels.

Given the aforementioned dynamics, participants will come into Monday’s session knowing the following:

  1. The S&P 500’s higher-time frame breakout remains intact, per graphics 7, 8, and 9.
  2. Late last year, JPMorgan Chase & Co. (NYSE: JPM) strategist Marko Kolanovic suggested equities would rally with the S&P 500 auctioning as high as $4,000 on the basis of low rates, improved fundamentals, buybacks, as well as systematic and hedge fund strategies. Since then, Kolanovic downgraded growth and expressed the limited potential for further upside.
  3. The earnings of heavily weighted index constituents suggests participants discount improved speculative flows and delta (e.g., presence of committed buying or selling as measured by volume delta). Please see graphics 4, 5, and 6.
Graphic 4: Supportive order flow in the SPDR S&P 500 ETF Trust (NYSE: SPY), the largest ETF that tracks the S&P 500, on January 20 trend day.
Graphic 5: Supportive order flow in the SPDR S&P 500 ETF Trust (NYSE: SPY), the largest ETF that tracks the S&P 500, on January 22.
Graphic 6: Speculative derivatives activity for the week ending January 23, 2021.
Graphic 7: Daily candlestick chart of the cash S&P 500 Index

Given the above dynamics, the following frameworks apply for next week’s trade.

In the best case, the S&P 500 takes back Friday’s liquidation and auctions above the $3,840.75 HVNode. Expectations thereafter include continued balance or initiative buying to take out the $3,859.75 overnight all-time high (there is a low probability that overnight all-time highs end the upside discovery process). Thereafter buying continues as high as the $3,884.75 price projection, or double the width of the balance-area, the typical target on a balance-area breakout.

In the worst case, any break that finds increased involvement (i.e., supportive flows and delta) below $3,824.25 BAH, would favor continuation as low as the $3,763.75 BAL.

Graphic 8: Profile overlays on a 15-minute candlestick chart of the Micro E-mini S&P 500 Futures

Conclusions: Despite broad-market indices being in a longer-term uptrend, the odds of substantial upside resolve are low. Participants ought to look for favorable areas to transact, such as those high-volume areas in the S&P 500 featured in graphic 8.

All in all, the risk and reward dynamics, at these price levels, are poor.

Graphic 9: 4-hour profile chart of the Micro E-mini S&P 500 Futures

Levels Of Interest: $3,884.75, $3,859.75, $3,840.75 HVNode, $3,824.25 BAH, $3,763.75 BAL.

Cover photo by Jayant Kulkarni from Pexels.

Categories
Commentary

Market Commentary For The Week Ahead: ‘All In At The Top’

Key Takeaways:

  • Analysts extended 2021 S&P 500 targets.
  • Fear and greed are tugging at each other. 
  • Jefferies ups 2021 GDP forecast to 5.25%.
  • Net equity buying the largest in months.
  • Inflation is rising where you don’t want it.
  • Positioning suggests elevation of volatility.
  • The big picture breakouts remain intact.

What Happened: Coming into the extended holiday weekend, on tapering volumes, U.S. index futures balanced within prior range. 

This activity occurred in the context of a larger balance-area forming just beyond the $3,600.00 multi-month break-out point. Given the lack of range expansion, in addition to the aforementioned responsive, back-and-forth trade, participants are signaling a lack of conviction.

Though there is a lot of noise in the markets — an uneven recovery, stimulus, elections, trade, and the like — one key point remains: the multi-month upside breakout targeting S&P 500 prices as high as $4,000.00 remains intact. Add to this the recovery of Monday’s liquidation fueled by weak-handed, short-term buyers, and the fact that the all-time $3,724.25 rally-high was established in an overnight session, it is highly likely that the upside discovery process has yet to end.

Note: Historically, there is a low probability that overnight all-time highs end the upside discovery process. 

Pictured: Profile overlays on a 30-minute candlestick chart of the Micro E-mini S&P 500 Futures

What To Expect: Friday’s session found responsive selling surface near the $3,691.00 profile level. Given that participants had difficulty in sustaining higher prices, alongside shortened holiday trade, the following frameworks apply for next week’s trade.

In the best case, the S&P 500 remains above its $3,667.75 HVNode, and continues to balance. As stated earlier, given the tapering volume and holiday, the odds of directional resolve are quite low. 

Two go, no-go levels exist; trade that finds increased involvement above $3,691.00 and below $3,667.75 would suggest a change in conviction. Anything in-between favors responsive trade.

Conclusion: Bank of America Corp’s (NYSE: BAC) Michael Hartnett summarized it best: “[T]he year of the virus, the lockdown, a crash, a recession, an epic policy panic, the greatest stock market rally of all-time, a V-shape economic recovery, and ending with a vaccine for COVID-19.”

Though risks remain, markets are pricing in the odds of a continued rebound. Unless some exogenous event were to transpire, technically speaking, all broad-market indices are in an uptrend. A move below $3,600.00 in the S&P 500 would denote a change in tone, increasing the likelihood of a failed breakout that would target prices as low as $3,200.00.

Pictured: Retest of the upside breakpoint on a daily candlestick chart of the cash S&P 500 Index

Levels Of Interest: The $3,691.00 boundary and $3,667.75 HVNode.

Bonus: Here is a look at some of the opportunities unfolding.

Photo by Raka Miftah from Pexels.