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SpotGamma™

S&P 500 Stock Market Gamma Trading Levels Based on Options Open Interest

Market Analysis

GME Gamma Squeeze: Round 2

GME Gamma Squeeze – What Happened?

Yesterday GME saw another massive price move with the stock ripping over 100% from $45 up over $160 in after hours trading. This move was likely fueled by an options gamma squeeze as we’ll explain here.

First, note the existing options positions in GME, from the day prior to yesterdays squeeze (Tuesday, 2/23). There was a large concentrated put position as highlighted in red box below. Call options in decent size were also spread from 40 up all the way into the 500 strikes (green box). This infers that as the stock started to lift off, all of those put positions started to bleed in value, which may have allowed market makers to reduce their short stock position. As the stock lifted higher all of those preexisting call positions start to pick up in value, requiring additional long stock hedges. In other words the “pump was primed” for a gamma squeeze.

From the days start there was fairly strong “bullish” options flow which picked up in spades after 1pm. This chart portrays the initial hedging requirement due to new options trades (delta hedge). Recall that as the stock moves higher, more stock must be purchased to re-hedge (gamma hedge).

We’ve indicated where the bulk of these options flows picked up in the GME price chart below.

The net result of the new options positions from Wednesday, and GME stock price jump is that the center of options hedging activity (ie large gamma strike) has shifted from 45 to 95. This indicates that major hedging flows will now be tied to that level, which could set up as support. Its important to note that these options price levels shift daily.

GME Prices: Looking Ahead

It is likely to be a challenge for GME to reach & sustain similar price heights as before (>$200). The main reason for this is that we think options market makers are going to be much faster to raise the price of options. The primary method options market makers have of deterring option buyers is to raise the costs of options, which should start to limit demand. This in turn may mean that marker makers risk and hedging requirements declines.

During the last price jump the cost of options (i.e. implied volatility) rose to very high rates, but it did not seem to deter call buying. This demand was primary to the initial options gamma squeeze, as we detailed in our previous analysis. Yesterday though options prices rose dramatically, surging past relative levels from similar GME price jumps.

You can see this below, where we show the cost of at the money option (left axis). Each dot represents a different expiration date, with an option strike equal to where the stock last traded. The thin blue line shows the price of GME stock (right axis). Last night with GME stock closing near $100, the cost of an option was nearly 3x that of the last time GME was near $100.

This similar chart below shows the options in implied volatility terms, and you can see that the cost of call options (blue dots) rose well past that of put options (orange dots).

If call sellers begin to show up in earnest, that can allow the market makers to sell long stock hedges. We believe this was a strong reason as to why GME stock dropped from >$200 down to $60. The mechanics of this trade our outlined here: The GME Gamma Trap.

Nomura McElligot Options Gamma Update

From ZH

Update (1000ET): It appears the unclenching has begun!

*  *  *

While the S&P has been weaker since Friday’s opex, Nasdaq is the “messiest” due to the index-level price-movement “unclenching” based upon the sheer amount of $Gamma running-off post last Friday’s Op-Ex.

As Nomura’s Charlie McElligott notes, the effect was particularly notable in Nasdaq with QQQ experiencing over 50% drop in aggregate $Gamma, which meant that the prior Dealer hedging barriers have also collapsed and are no-longer providing insulation.

This matters now, as we current see spot index / ETF levels vs “Gamma Neutral” lines through breach-points – meaning we are now trading in Dealer “Short Gamma” territory:

  • SPX Dealers “Short Gamma” below 3852 (spot 3850, some directly on the “neutral” line)
  • QQQ Dealers in DEEP “Short Gamma” territory below 333.36 (spot 316)
  • IWM Dealers in DEEP “Short Gamma” territory below 225.77 (spot 221)
  • EEM Dealers “Short Gamma” below 55.34 (spot 55.30)

Perhaps even more worrisome for any downside extension is the chance of an “accident” happening in “broken VIX” land.

…due to the 99th %ile steepness in VIX term structure (SPX 5d realized vol was a 2-handle yday, with 10d realized still just 5.3) vs UX2-8 ref 29/30 (remember, VIX ETN Net Vega now 96th %ile since 2011!), this has crowded so much size into VIX rolldown, meaning a massive “short UX1” position (thus the 4th %ile Non-Comm VIX Futures Net Vega reading since 2011!!!)

Put simply, as McElligott warns – That UX1 short (the above “Non Comm VIX” Net Vega) is in DANGEROUS “stop-out” territory – and is how “accidents happen.”

Remember the Nomura strategists explanation last week:

“volatility is the exposure toggle” in modern market structure risk management, i.e. falling or rising volatility implies either levering-up or deleveraging of positions as per a volatility input…it doesn’t require a “price signal” shock, per se

In other words, this means that the size of a position – in this case, Equities length (high net exposure at L/S HFs, or 100% Long signals in CTA Trend across Global Eq futs) built and leveraged upon the edifice of “low volatility” – is set to be inversely proportionate to the instrument’s volatility…so if we have a “vol accident,” we risk mechanically generating a deleveraging event, regardless whether the macro backdrop or even the price-level itself changes.

Translation – fundamentals are irrelevant, if this breaks down, technicals (forced flows) will dominate.

Finally, as SpotGamma notes in the charts below, after the ‘gamma flip’, the QQQ index is much more put-heavy than the SPX. 

If markets open weak (as futures indicate) there are large net put positions at 315, down through 310 which may add to dealer selling.

Brace For Surge In Volatility: Goldman Warns Record February Op-Ex Could Lead To Market Chaos

From ZH

In case the market didn’t have enough things to worry about, Goldman has flagged a new scare that could spark a turmoil in today’s option expiration. As Goldman’s Vishal Vivek writes, today’s option expiry “is setting up to be the biggest for single stock options, outside of a January expiration.”

Indeed, while open interest declined sharply following the 15th January expiration, investors have re-initiated options positions, driven largely by calls (something we addressed two weeks ago in ““Crash Up Time” – S&P Caught In Reverse “Gamma Gravity” As Call Wall Spikes“), and over the past eight months, single stock open interest has increased significantly with nearly $500bn of open interest expiring on the average (non-January) third Friday, up from $300bn in the prior two years.

Further boosting the risk of a spike in vol today is that the S&P currently finds itself in dealer “no man’s land”: as SpotGamma explains, notional gamma levels have reduced quite a bit, with QQQ showing a solid negative gamma position, while the 4k “Call Wall” has contracted to 3950 in SPX, and holds 395 in SPY (SG sees the Call Wall shifting down as a bearish indicator).

This, to SpotGamma, reads like “a great place for volatility” (i.e. a large move up or down) to expand from, as gamma is low and the large trading strikes have consolidated to 3900-3925 while as noted above, we have a near record single stock expiration which “would could add some flows/momentum.”

Here, SpotGamma points out a curious divergence in the market – while sentiment as measured by the latest Fund Manager Survey shows near record euphoria…

…  dealers in particular, and the market in general seems to be increasing the price of downside risk, as can be see in the chart below. These are the implied volatility (IV) levels for 25 delta options with each dot representing a different expiration. As SG explains, “the fact that put IV is increasing is signaling that traders are paying up a bit for downside hedges.” This is perplexing not only given the abovementioned euphoria, but that “the market has held such a tight range this week, just 1% under all time highs.”

In any case, even if there is no vol spike today, SpotGamma warned that following today, following the sharp drop in gamma we do “not have the same support for those big mean reverting swings as seen the last several days.”

* * *

And just to make life for the reddit daytraders – who will be eager to ride the biggest momentum names in any of today’s gamma turmoil – a little easier, below Goldman lists the 40 stocks with the highest open interest expiring on Friday. Notably, TSLA, GME and CMG are among the large names where put open interest exceeds calls.

Separately, Vivek notes that today’s expiry could be important for stocks with large open interest in at-the-money (ATM) options; market makers delta-hedging their unusually large options portfolios will be active. This flow is likely to dampen volatility in some names while exacerbating stock price moves in others. He explains further:

At major expirations, options traders track situations where a large amount of open interest is set to expire. In situations where there is a significant amount of expiring open interest in at-the-money strikes (strike prices at or very near the current stock price), delta-hedging activity can impact the underlying stock’s trading that day. If market makers or other options traders who delta-hedge their positions are net long ATM options, expiration-related flow could have the effect of dampening stock price movements, causing the stock price to settle near the strike with large open interest. This situation is often referred to as a “pin” and can be an ideal situation for a large investor trying to enter/exit a stock position. Alternatively, if delta-hedgers are net short ATM options (have a “negative gamma” position), their hedging activity could exacerbate stock price moves.

So in case any traders want to piggyback on any outsized moves, Goldman has identified stocks where option activity will have a big impact, as “expiration-related trades may cause trading activity to pick up for stocks with a significant amount of ATM open interest.” The table below identifies possible focus stocks with the highest ATM 19-Feb open interest, and compares it to the average daily volume of the underlying stocks. Expiration-related activity is likely to have more of an impact if the open interest represents a significant percentage of the stock’s volume.

The GME Gamma Squeeze

In late January 2021, GameStop experienced a once-in-a-decade squeeze that has captivated the world’s attention. This was a premeditated and programmatic exercise, orchestrated by coordinated stock and option buying across the retail and professional community, that resulted in large institutional entities losing billions of dollars. These investment houses with significant short positions did not expect a stock with GameStop’s fundamental profile to increase +2,500% in price over less than three weeks; therefore, they did not have the controls in place to handle the incredible levels of stock and call option purchases. The frenzy drew comments from the White House, provoked a social media crackdown, caused brokerage units to restrict trading, and has led to a Congressional hearing on GameStop on Thursday, February 18th.   

At SpotGamma, we offer the following analysis, segmented into three phases:

Phase One: The Setup

  • This is where retail investors started planning for the event
  • These retail investors started loading up on call options ahead of the coordinated large stock buying activity in phase two 

Phase Two: The Weaponized Gamma Squeezes

  • In the first squeeze, retail investors relentlessly bought stock and call options 
  • In the second squeeze, the super squeeze, several factors rocketed the stock price upward. They include stock buying, call buying, put selling, celebrity engagement, forced stop-losses, and market makers buying stock to hedge options exposure

Phase Three: The Unwind

  • This is where stock and options became too expensive for retail investors and declining volatility led to market makers selling stock they owned as hedges
  • Coupled with new trading restrictions imposed by the brokers, the stock price crashed back down more than 80pct from its highs in less than two weeks 

The Setup 

Phase One: Early in January 2021, Reddit/WSB and other retail traders began to focus on GME as a buying opportunity…. 

(1) January 11th [Initial Attention]: GameStop recruited a highly-respected industry veteran to their Board (Chewy Founder, Ryan Cohen). This garnered enthusiasm from the retail community and acted as the initial catalyst for these investors to start discussing GME as a potentially exciting stock to own. There was some initial buying in the $15-$20 range, then the stock quickly shifted higher to the $35-$40 range. 

(2) January 13th-20th [Loading Up]: Members of the Reddit/WSB community started purchasing large amounts of call options. This significant call buying began to form the basis for the first of two dramatic upward stock movements within the “Weaponized Gamma Squeeze” setup.  A “gamma squeeze” can occur when a trader or group of traders purchase call options in bulk, causing market makers who sold them these options to buy the stock as a hedge.  This aggressive forced stock buying adds to the stock price moving steeply upward and pushes the stock price higher as market makers scramble to buy incrementally more stock at rapidly increasing prices.

This type of trade is not unique to GameStop.  Just last summer, SpotGamma coined the term “Weaponized Gamma” when in August ’20 we saw large and concentrated options positions in several top technology stocks. We assigned the term “weaponized” to connote the idea that options were being purchased for the explicit purpose of pushing market makers to purchase stock rather than investing with a belief in the company’s performance or value.

Here, again, “Weaponized Gamma” applies to the GameStop event because it’s clear that retail traders understood the concept of a “gamma squeeze” and collectively coordinated their options purchases to initiate large market maker stock purchases.  Their action pushed the stock price up – “weaponization”. This snowball effect caused GameStop’s stock to increase as market makers hoped the call buying would stop… while instead the next stage of buying caused even more powerful pressure.

(3) January 21st [Strength in Numbers]: Citron Research published a sell recommendation research report on GameStop.  This report drew the ire of the Reddit/WSB community, which bonded tightly as one against “Wall Street”. This retail group understood the pain they could inflict through coordinate levered purchases of both call options and stock. So, they organized to exact maximum pain for the institutional complex with full disregard for what they viewed as elitist backlash.  On January 22nd, call option volumes hit their peak, as you can see in the chart below.

GME Call Volume, Put Volume

Additionally, this activity displayed in the chart below shows the relative cost of an “at the money option” (an option with a strike equal to GME’s current price).  At the start of January, a trader would pay essentially 5pct of the stock’s price for this option, roughly $1.25 per contract.  As the squeeze began, options prices rose dramatically and that same option cost more than 35pct of the stock’s price for this option, upwards of $75.  This means on both a relative and absolute value, the calls became extremely more expensive.

GME Options Costs

What is equally fascinating, and central to understanding the entirety of the GME trade, is that as these call volumes reached their highs, put options volumes also hit their peak.  As we will explain in Phase 2, we believe this influx of put volumes was key to sustaining the GME stock price and helped fuel the second “super squeeze”.

The Weaponized Gamma Squeezes

Phase Two: Reddit/WSB Traders Drove GameStop to Shocking Heights Pressuring Dealers to Buy GameStop Shares

(4) January 22nd-25th [The First Push, Squeeze #1]: In the days following the Citron research report, retail investors continued to purchase stock and options as a large collective community. They felt more and more emboldened as they made progress in pushing the stock price higher from $50-$60 a share up over $125. Eventually, we saw some large funds that had taken significant losses, including Melvin Capital.  These funds breached their borrowing and leverage capacity and were forced to buy back their short positions on January 25th. Again, at the root of this buying momentum was a squeeze that caused GameStop’s stock price to spike over 200pct higher intraday, which forced options dealers to buy stock at higher prices just to maintain their hedges.  In summary, we saw buying activity driven primarily by call options purchases forcing dealers to buy stock into a short-covering rally during the first gamma squeeze.  

(5) January 26th-27th [The Super Squeeze, Squeeze #2]: At this point, we hypothesize that the key buyers shifted from the “retail” sector to “institutional.”  We have dubbed the price action associated with this move as the “Super Squeeze”.

As news broke that Melvin Capital needed a bailout, Reddit/WSB investors felt they were winning.  This became a movement.  Even celebrities began to show their “support” for GameStop which in turn engaged an even larger retail crowd to buy stock.

The next day, following the dramatic intraday 200pct rise and fall of GME on January 25th, it appeared to many as if the squeeze was over.  On a quantitative basis, the initial gamma squeeze seemed to reset and short covering subsided. However, at SpotGamma we observed that the number of put options traded increased sharply. You can see in the chart below that total call open interest (light blue) did not change materially throughout the entire period, despite the stock price moving much higher. However, put interest (dark grey) surged as the stock gained in price. 

GME Call vs Put Open Interest

Traditionally when a stock price moves higher traders will often buy puts, and dealers (who are short puts) will short stock as a hedge. However, we believe that that bulk of these put flows were traders SELLING puts. This forced options market makers to accelerate their stock buying hedges.  This activity helped fuel the upward momentum and create the “super squeeze.”  Again, as GME stock price was increasing, the market makers bought hedges and the short sellers bought stock to cover their short positions, thereby creating extraordinary upward pressure.

As a visual representation of this event, the chart below presents a method of valuing the option market maker risk (exposure) caused by these new trades.  The aggregate delta reflects the directional exposure created by all of the GME options trades. Since this figure is extremely positive, it shows that the independent GME options traders profited from moves higher in GME stock. Conversely, it shows how the market makers (who are on the opposite side of these trades) had a large and growing requirement to buy stock to hedge their positions.  Here, we present this on an aggregate basis to illustrate just how much value in stock had to be purchased the morning of January 27th.

To summarize the reasons for the Super Squeeze, which propelled GameStop shares from $80 per share to over $450, the following events were most impactful:  

  • Gamma-Squeeze:    Options market makers bought stock to hedge options risk
  • Stock Purchasing: Retail collaboratively and aggressively purchased stock
  • Short-Covering: 400pct stock price rise forced short investors to buy stock

The Unwind

Phase Three:  Expensive Stock and Options Prices, Coupled with Trading Restrictions, Drove GameStop Price Back Down to $60 Per Share

(6)  January 27th-28th [Expensive and Controlled Dynamics]:  Following this second big push, many traders wondered what would happen next.  Would we see a third leg of this squeeze send GameStop stock price to $700?  The answer we all know now is the trade stalled out, and at SpotGamma, we believe there are three primary reasons:

Reason one: Stock and options were too expensive. At more than $300 per share, the call prices and stock price cost too much in buying power for the retail crowd to continue pushing the stock higher.  The leverage provided by trading firms such as Robinhood maxed out and the support waned, as retail traders were unable to buy more stock, and in some cases, were forced to sell their existing long positions.

Reason two: Hedging requirements declined.  As the stock price stalled, the price of options (measured by the implied volatility) meant the market makers who were long stock no longer needed their positions and could sell them, putting downward pressure on GameStop’s share price.

Reason three:  “Big Brother” clamped down.  On the night of January 27th, social media sites such as Reddit and Facebook blocked message boards discussing GME.

(7)  January 29th-Feb 4th [Downward Slide]:  With these high prices, new controls, and market interventions, the stock price slide was progressive with a few days of intermittently volatility.  Again, during this period, since options dealers were able to sell the stock they bought as hedges, they eventually pushed the stock steeply lower in a matter of hours.  Eventually, the stock broke back below $100 per share by February 2nd and below $60 per share on February 4th. 

GameStop was not the first stock to squeeze higher and it will not be the last.  At SpotGamma, we will consistently and reliably analyze these dynamics across more than 3,500 stocks and indices to bring our subscribers relevant actionable information.  We believe with the significant number of new trading accounts opened following the GameStop drama that this is the beginning of more options volume and there will be significant momentum across the derivatives markets in the years to come. 

TLRY & Pot Stock Gamma

When a stock trades higher at a very rapid pace the price of the stock can pass the highest available options strike. For instance, at the start of the day on 2/9/21 the available call options strikes for Tilray (TLRY) ranged from ~5-$50. However the stock ripped over 50%, passing the 50 strike.

When a stock (like $TLRY) runs out of call strikes, the leverage mechanism driving these stocks is reduced. Lots of call buying can produce a gamma squeeze as when traders buy call options dealers (who are short call options) must hedge with buying stock. When the stock surpasses the the highest available call strike, that reduces the number of call options available, which reduces demand.

As you can see in the chart below, there was no available call data (blue) for out of the money strikes. The next trading day when new calls were made available they came a tremendously high implied volatility levels. This means that they are very expensive to purchase, and this can functionally limit demand.

This pause gives options dealers the opportunity to unwind their large stock hedges, and as the stock starts to sell off, dealers can sell more and more stock. This creates the “round trip” stock action seen in the chart above wherein TLRY trades from 28->64 and back to 28.

Our EquityHub model suggests that key support for TLRY forms at $25, with the stock remaining very volatile while between $25 support and $30. If call volume rebuilds and the stock can break up into $30 there could be another large spike in the spike, therefore $30 isn’t as much of a resistance point as a “refueling” point where we could see a “gamma squeeze”.

GME Options Pin

On 2/1 with GME stock at $225 we wrote about how options dealer flows could result in the stock dropping to the $60 strike. We highlighted this strike because it was where the largest concentration of options were placed (from a gamma perspective). You can see that is is precisely what has played out:

This week we look for the stock to hold the $60 area, and for the “pin” to be pulled on Friday. This is because >30% of the gamma position in GME expires at Fridays close. This may mean that downside volatility increases after this day, with <$50 prices in play.

You can see this reflected in our EquityHub snapshot, with the key trading level still at 60, and a large hedging support area at 50. This implies higher downside volatility next week.

Nomura’s McElligott: ‘The VIX Is Broken — Again’

From Heisneberg:

“From a Vol market perspective, the issue is that the VIX is broken — again,” Nomura’s Charlie McElligott said Monday, in one section of a sweeping note documenting recent dynamics and detailing what a trio of backtests might foretell for markets on the heels of last week’s somewhat deranged developments.

It’s “all demand” for implied, but no supply, Charlie wrote. He described a “near-endless need for skew/ forward vol/ convexity from hedgers,” in an environment where dealers are unable to supply it.

In case you haven’t noticed, markets are increasingly susceptible to the self-referential, flows-volatility-liquidity feedback loop (colloquially: the “doom loop”) and other manifestations of VaR shocks. Long periods of apparent calm hide an underlying fragility in true “stability breeds instability” fashion.

Deutsche Bank’s Aleksandar Kocic touched on this years ago. To wit, from a 2017 note:

Excessive determinism is almost always the biggest enemy of stability. This seeming contradiction is behind the concept of metastability which captures the mode of market functioning in the last years. Metastability is what seems stable, but is not — a stable waiting for something to happen. [An] avalanche is a good example of metastability to keep in mind — a totally innocuous event can trigger a cataclysmic event (e.g., a skier’s scream, or simply continued snowfall until the snow cover is so massive that its own weight triggers an avalanche).

The frequency of “avalanches” in equities limits vol supply. “Dealers simply cannot be short crash and/or tails in any sort of size, across any look-back period from a regulatory stress test/risk management perspective,” McElligott wrote Monday, on the way to delivering the following more granular color:

This steepness / carry in the VIX futs curve (until last week) had recently seen vol and systematic investors pile into roll-down trades, as evidenced by CFTC data into start of last wk showed Non-Comm VIX futs Vega the most “net short” in a year, as 12th%ile since 2011…while conversely, the stickiness of long-dated VIX showed up in the VIX ETN Vega at 1 year highs and 81st %ile, with retail getting LONG VOL, with the ETNs adding like $5mm-10mm of Vega each day…just bidding up fwd vol—but got hard stopped-out last week, as evidenced by the crazy move in VIX +64% lo-to-hi last week, vs the “just” -1.5SD move in SPX.

The interesting bit — from a macro/portfolio management perspective — comes when he ties this into expectations for higher bond yields and the prospect of bear-steepening in the curve predicated on, of course, the reflation narrative in all its various manifestations, whether you want to cite Democratic control of government, fiscal-monetary coordination, vaccine rollout, or all of the above.

I’ve talked at length in these pages over the past year about the prospect that bonds may no longer serve as an effective hedge for equities. This is not a new argument. Although it’s obviously true that policy rates are not a lower-bound for bond yields (10-year bunds, for example, are still some 30bps rich to where they “should” trade thanks to the ECB’s influence), there’s a very real sense in which buying government bonds is just tantamount to speculation these days. As Paul Singer put it last month, “When you buy something with no yield, where you can only make money if the yield goes from zero to [negative five or negative 10 basis points], you’re engaged in speculation, you’re not engaged in investing.”

Throw in the distinct possibility that bonds are vulnerable to “tantrum” events, and you’re left to ponder whether 60/40 (or, more to the point, the reliably negative stock-bond correlation that underpins it), is still viable. I personally think it is, but that’s another story.

The connection to the points made above is straightforward.

“Many who previously relied on the ‘bonds as your hedge/min vol asset’ correlation off the 35-year bond bull market backtest in that generic risk parity/balanced 60/40 fund way, are reconsidering their core assumptions on USTs/Equities correlation,” McElligott said.

That, “reconsideration” is feeding into the dynamic described here at the outset. “The narrative concern about the potential for regime change within [US Treasurys] on account of the ‘reflation renormalization + fiscal stimulus + blue wave, government deficit spending and issuance’ new world order, sees implied vol [as] the ‘trending’ hedge of choice,” Charlie went on to write.

Indeed, it’s possible that bonds become a source of risk and volatility rather than a stabilizer. Although certainly not anyone’s “base case,” it’s at least possible that some kind of vicious, vengeful bear steepener comes calling at some point due to, for instance, a “rogue” inflation print or a January 2018 NFP-style upside average hourly earnings beat.

Yes, the Fed has the capacity to bring something like that quickly under control, but perhaps not quickly enough to prevent a multi-session “diversification desperation” trade, where both bonds and stocks sell off simultaneously.

“Because bonds may no longer work as your idiosyncratic ‘accident’ hedge,” you have to find something else, McElligott remarked. Hence the implied vol connection.

“All of these dynamics show their face with [the] entire VIX futures strip ref 30+ out through July/Aug, while 50-day realized vol sits down scraping [the] bottom [of the] barrel at 12-13,” Charlie wrote. 

“Hard Purge” – Nomura Warns The Vol Market Signals Risk Of “Outright Crash Down”

From ZH

As we detailed earlier, futures were down quite sharply to start the overnight session only to stage a significant recovery to current highs (perhaps on the back of a lack of glaring clearing issues… for now… appearing over the weekend).

However, as SpotGamma notes, despite this move higher the options structure deteriorated, and we will need to see some fairly strong call flows to help reign in volatility (puts above 3750 were net closed/rolled on Friday which relieves some of the selling pressure >3700).

Both of which fit with our warning from Friday that there has been a ‘phase reversal’ in the options market. From total and utter panic-buying of calls (relative to puts)…the explosion in the “weaponized Gamma” phenomenon of markets, largely due to the democratization of trading and access to information (e.g. options mkt gamma “pinch points,” short interest as a %age of float in single-name Equities) – which previously was really only followed in institutional corners, but is now accessible by hoards of retail traders playing video games with stimmy checks and free trades—was all part of the overall “risk-on” sentiment tailwind

To the opposite…

Gamma phase reversal. Put buying soaring as calls fade. Next week will be chaotic pic.twitter.com/y6Q1krp3up— zerohedge (@zerohedge) January 29, 2021

Critically, the ‘gamma-squeeze’ may have been wrung out as Nomura’s Charlie McElligott notes that there is now absolutely no “crash up” being priced whatsoever on a US Equities Index level.

…Or more ominously, the vol market is saying we are at risk of outright “crash down.”

As the Nomura strategist notes, it is certainly safe to say that nobody stress tests their books to experience 13 SD moves in “Crowded Longs vs High Short Interest” (since ’06)….or “Short Interest” factor to see a  10 SD move…as we showed after Wednesday of last week, which is why we’re looking to the analogs here for some guidance.

Ultimately, going from a point of “sustained extremely bullish sentiment” to a “hard purge” in said sentiment in short order means the go-forward comes down to what funds are forced to do with remaining exposure, and how susceptible short books are to continued de-grossing – either due to move “sensitive small cap” type names being in the crosshairs (and if there is still positioning there at risk), OR, if we were to see a larger index level move lower, which could then generate additional long selling / net down like we experienced mid- to back- part of last week.

As SpotGamma concludes, you can see below in the green 3750-3800 box there is just a “void” of options positions and we hold little directional conviction if markets enter that zone.

Implied volatility (ie VIX) is the key lever at this moment.

Should we see the VIX break 30 to the downside then the SPX may make a quick move to 3800 resistance. The zero gamma critical support level down shifts to 3740, should that level break then 3700 becomes the target.

GME Gamma Trap

The GME squeeze is struggling a bit today as the stock is off $96 (30%) to $225. We think this could be the result of put buying in the stock.

Option implied volatility has surged recently, sending the price of call options massively higher. You can see this reflected in the graph below. For example at the open we noted the 320 call (at the money), expiring in 5 days was $125. That is $12,500 of notional value, and this prices out most market participants. Compounding this are brokerage halts in the trading name, making options more risky due to the time decay factor.

If retail cannot purchase options they lose their ability to “weaponize gamma”. This is because call options are essentially a mechanism of leverage because each call contract purchased may result in dealers buying stock. A few hundred dollars spend on a call could result in thousands of dollars notionally of stock purchases.

From a delta perspective the bulk of options are at $60 strike calls as you can see in the green box below. This infers that the greatest source of delta hedging flow for dealers are these deep in the money calls which may require they hold long stock as a hedge.

The “Total Delta” column below is the maximum estimated exposure for options dealers (its likely less than this estimated figure, out of scope for this post). Since this figure is negative, it means that dealers options positions make them directionally exposed to a move higher in GME. To hedge this they may buy GME stock until their delta exposure is closer to zero.

As you can see in red, put volume has consistently outpaced call volume as seen in red. Additionally the total open interest position reflects Call open interest less than Put open interest (see “Call/Put Total” columns). If our delta metric is correct, dealers are having to hold long stock delta and each new wave of put buying allows them to sell that long stock they are holding. As that pushes the stock lower, they delta required to hedge the deep in the money calls declines, too. This “gamma trap” becomes a feedback loop as dealers sell stock, and new puts are added allowing them to sell more stock. We think this may be some of what is driving the stock lower, despite determined buyers in the retail public.

If their delta position was long it would require dealers to short the stock, an activity that was difficult last week the supply of shares to short dwindled.

The Great Silver Gamma Squeeze

Silver prices were up over 5% last week as WallStreetBets switched its focus from stocks like GME and AMC, to silver and stocks like SLV and PSLV. As you can see in the chart below SLV surged on Thursday directly to the $25 strike, only to pin that level into Fridays close. $25 just happens to be the level at which the overwhelming majority of SLV gamma is placed, and so hedging flows are heavily tied to this price.

SLV Stock Chart

The graph below depicts where large options positions are located, and the potential effect on the stock. This data is sourced from our EquityHub tool. As you can see in the graph below, all of our key levels (descriptions) are held at the 25 strike (yellow arrow). The Y axis “SG Momentum Index” infers how much stock volatility may be induced due to options hedging. You can see that our model suggests volatility increases as the SLV price moves lower because the SG Momentum indicator moves higher as the stock price declines. This momentum is the effect of hedging into the concentrated put positions in and around the $20 strike.

If traders were interested in a “weaponized gamma” type move, they would want to see an addition of call options at strikes >25 which would shift the Momentum indicator higher as indicated by the green arrow and dashed line. The unique thing about buying an option is that it may induce a counterparty (who is short that option) to hedge their exposure in stock. Therefore many traders each purchasing a few hundred dollars of call options at the same time incents options dealers to buy thousands of dollars in stock.

The other metric which signals increased upward momentum would be a shift higher in the key gamma strike. This is the main strike level to which dealer hedging is tied, and so if that level moves to a higher SLV strike it implies dealer hedging will support a stock move up.

Below is a 5 day history of various options metrics in SLV. You can see that total call open interest (“Call Total”) steadily increased, implying an increase in bullish bets. Despite this, the “key gamma strike” did not move higher from 25 throughout the course of the week.

The SLV ETF has a massive amount of options tied to it and this is likely because the ETF can be arbitraged against silver futures. This means that if the price of SLV shifts higher(lower), traders may able to short(buy) the silver futures contract to arbitrage any price differences. This also means that it would take a large amount of options to shift that key gamma strike higher.

One of the reasons that the GME squeeze was so successful was that GME has a low stock float (small number of shares outstanding). Therefore each call option had a bit more pressure relative to a call option in SLV which has a massive number of shares outstanding. However, many of the mining stocks like AG and HL have small floats and could therefore be relatively more impacted by call buying.

Below we list the 5 day history for AG (First Majestic Silver). The key gamma strike column (green box) reveals that level shifted higher nearly every day this past week. This was in sync with the stock price which trended higher (second chart below).

As tailwind for SLV, AG and all metals stocks is that silver bullion demand is surging. We checked many popular bullion dealers to find nearly all silver coins “sold out” (1/31/21). Demand for the physical metal may feed back into silver futures prices which means that both silver futures and the SLV ETF could pressure the metal price higher.

We’ve decided to temporarily make our EquityHub tool publicly available for metals stocks & ETF’s.