The following is a guest post from Doug Pless.
At SpotGamma, our community uses the SpotGamma AM Founder’s Note when preparing to trade index products such as the QQQ (Nasdaq 100 ETF). Specific levels to note include the following: Volatility Trigger, SpotGamma Absolute Gamma Strike, Put Wall, and Call Wall. Additional levels are the CP Gamma Tilt and Gamma Notional.
The Volatility Trigger is SpotGamma’s proprietary Gamma flip level, with positive Gamma above and negative Gamma below the level. When price is above this level, Market Makers most likely have a positive Gamma position. Their hedging flow should be opposite the direction of price movement, selling the underlying stock/ETF as price rises and buying as price declines. In this case, Market Maker hedging flows should help suppress volatility. On the other hand, when price is below the Volatility Trigger level, it suggests Market Makers have a negative Gamma position. Their hedging should be in the direction of price, selling as price falls and buying as the stock/ETF rallies. This may increase overall volatility.
The SpotGamma Absolute Gamma Strike is the strike with the largest total Gamma position for the underlying stock/ETF. A large amount of the options Market Makers hedging position may be tied to this level. This level often acts as support or resistance.
The Put Wall is the strike with the largest net negative Gamma in the underlying stock/ETF. It can act as support. A change in the Put Wall level can be an indication of shifts in large put positions. A shift higher is often a bullish signal.
The Call Wall is the strike with the largest net positive Gamma in the underlying stock/ETF. It can act as resistance, since Market Makers will most likely have to increase delta hedging at this level. The Call Wall can also indicate traders’ expectations for the upper end of price movement. A shift higher is often a bullish signal. A shift lower can be a bearish signal.
The CP Gamma Tilt is the ratio of total Call Gamma to total Put Gamma. This is much like a standard Put Call Ratio, however SpotGamma applies a Gamma weighting to the ratio. An increase in the CP Gamma Tilt is considered a bullish signal. A decrease is considered a bearish signal.
Gamma Notional is the sum of Market Maker Call Gamma – sum of Put Gamma. A positive Gamma position infers lower volatility in the underlying, since Market Makers will need to trade against price to hedge delta exposure. A negative Gamma position implies higher volatility in the underlying, since Market Makers will need to trade with price to hedge delta exposure.
Finally, one can review the Vanna Model for QQQ and SPY. These graphs show how Market Maker Delta exposure may shift as price and implied volatility (IV) move up or down. The slope of the lines indicates how aggressively Market Makers may have to buy or sell the underlying to hedge their delta exposure as price and IV change.
Based on this information, we present a thesis and directional bias for the day. An example of how to plan and execute a trade in QQQ is shown below.
QQQ Trade Analysis: August 15, 2022
On August 15, the following metrics for QQQ were shown in AM Founder’s Note:
- Volatility Trigger: 322 (Previous day 323)
- SpotGamma Absolute Gamma Strike: 330 (Previous day 325)
- Put Wall: 300 (Previous day 320)
- Call Wall: 335 (Previous day 330)
- CP Gamma Tilt: 1.02 (Previous day 0.86)
- Gamma Notional: 23 (Previous day -236)
The QQQ SpotGamma Levels charts from the AM Founder’s Notes for 8/12 and 8/15 show the shifts in the Gamma levels between the two days. The SpotGamma Levels charts for 8/12 and 8/15 are shown below.
The QQQ Vanna Model for August 15 was neutral, showing no significant skew in Delta Notional as price increases or decreases. This indicates Market Makers would have very little need to hedge delta exposure as price moves up and down in the range shown in the chart. The QQQ Vanna Model is shown below.
The QQQ SpotGamma Levels charts for 8/12 and 8/15 showed that the SpotGamma Absolute Gamma Strike rose from 325 the previous day to 330. The charts also showed that the Call Wall moved up from 330 the prior day to 335. In addition, the AM Founder’s Note showed that the CP Gamma Tilt increased from 0.86 the previous day to 1.02 and Gamma Notional shifted from negative to slightly positive. Finally, the neutral Vanna Model indicated that Market Maker hedging activity most likely would not be a significant factor in trading for the day. Based on the positive Gamma, neutral Vanna Model, and QQQ trading well above the Volatility Trigger, one can expect a lower volatility day.
Based on the rising SpotGamma Absolute Gamma Strike, Call Wall, and CP Gamma Tilt, my bias was bullish. There existed opportunities for long entries in QQQ.
After the open, QQQ moved up and down in a range for almost two hours, testing the 330 Absolute Gamma Strike several times. This price action is shown in the HIRO Indicator chart below, available on Bookmap here.
Around 11:15 AM ET, QQQ tested 330 for a final time and began to move higher, as shown in the Bookmap chart below. Buyers absorbed sellers and aggressive buyers began to move price higher. QQQ quickly jumped higher to 332, traded in a range between 332 and 333 for most of the day, and moved a little higher in the final hour of the session. There were several opportunities for long entries, shown by the red rectangles (Note 3) in the chart.
The day played out as expected, with lower volatility and a bullish bias. Price action for the day is shown in the first Bookmap chart above.
For further definitions and information on the terms used in this article, please see the SpotGamma Support Center for a list of dozens of SpotGamma proprietary terms, as well as context for common market terminology.
SpotGamma Products Used: