Focussing on the End of Month

Gex with Vex

Good afternoon,

I hope everyone is having a nice weekend. Something different today. A post from a fellow Brit - Vexxly. https://twitter.com/Vexxly

We’ll focus on the month ahead with a view on some historical data (doesn’t always play out). As always a data driven decision process is always better than a gut check or astrology.

The charts below provide some reasonable insight into why we see weakness in this first week of the month. First Opex has usually occurred a week and a half prior, as a result we have weakened Vanna & Charm flows.

Why does this occur?

Vanna

In short, Vanna (the rate at which Vega increases/decreases) is weakest for options with <2 weeks of expiration time left. As a result the hedges associated with this Greek begin to unwind - Market Makers (buy/sell) depending on this - hence the name “Vanna Flows”.

Charm

Charm is similar except this is the rate at which delta is decaying. This increases exponentially as the option gets closer to expiry. But don't we get option expiries all the time? Well yes but Monthly options are present in larger volumes and as a result the MM inventory held as a result is also larger.

Gaming the situation

Here’s an example, March 14th the highest negative gamma position read on SPY this year ~-$5bn. This resulted in one of the fastest rallies we have seen thus far. Using these outliers we can find potential reversions, the hard part is figuring out whether an outlier is really an outlier (think Covid crash etc).

So why does this positioning have such a huge impact on price?

Market Makers have to hedge their sold put/ call positons by either selling (puts) and buying (calls) stock as well as other option positions in the tails. I won't delve into this too much as this piece is forward looking and focussing on the week ahead.

Current positioning (SPY -$1.8bn, QQQ -$694mn) which is by far not the peak we have had thus far, we note that there is still a way to go before reaching the peaks we are used to.

For SPY there remains ~-$500mn to go and for Q's -$400mn. As a result some downside remains. What is worrying though is the declining bounces we are seeing post these gamma ramps. See charts below.

As noted above we can see that the peaks in positioning are having lesser effects in terms of market rebound suggestive of systematic selling going on under the hood. This makes sense in light of the Fed QT approach with it no longer injecting $120bn/month into the bond market as of March 2022.

Reviewing the first week of the month data below we get a bit of insight see below.

We can see that negative expected returns are likely with an average of around with a range of -2% on SPY and -3% on Q's too.

Reviewing seasonality across both SPY & Q's we also see a similar picture, with Q's likely to drag down at a faster rate than SPY. Note the negative return on Qs in week 19.

Hope the above data points add some clarity to your thinking going into the market. If you find this insightful checkout vexly.co where we provide data like this and much more.

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Fed