Nomura analyst Charlie McElligott put out a note earlier this week discussing a market that seems overloaded with gamma right now, and one that could be freed up a bit after a lot of that gamma expires this Friday:
"SPX / SPY options $Delta remains historically very high at 94th percentile (since 2013) and with QQQ $Delta even more “extreme” over 97th percentile, which could now matter given that this week’s expiration should see a TON of Gamma rolling-off—meaning that as Dealer $Gamma hedging requirements are set to drop precipitously (with so much coming-off after Friday’s expiration) that we could see a powerful “unclenching” and thus, potential for a much larger trading distribution thereafter"
To quickly explain gamma's overall effect on market, imagine two soccers goalie on opposite ends of the field, knocking the ball back towards the midfield line, while coming in towards midfield by the end of the game.
That's what happening behind the scenes of the market. Dealer/market makers (who trade delta neutral) are loaded up with a lot of gamma (long calls and puts) into this expiration. As the market goes higher, they have shares to sell. As the market goes lower, they have shares to buy. That's one big reason for the lack of volatility in the broader markets the past 2 weeks and why it moves seem to be getting more and more narrow. Here's the SPY expected move chart for the next 2 months via Options AI technology:
Options have compressed to the point where the expected move over the next month in SPY is only ~3.5%. And the expected move into the end of August just ~1.7%.
That is not atypical following periods of elevated volatility. As the VIX comes in from elevated levels like we saw this Spring and Summer panic selling of options can ensue and many trading books get overloaded with gamma.
But what about stocks like Tesla which are still moving wildly? There's something else at play there, the market is seeing serious reverse skew in some of the story stocks, with upside call buying creating air pockets of negative gamma as the stocks go higher.
Here's a comparison of Tesla expected move vs the QQQ and SPY over the next month via Options AI technology:
Of course an approaching options expiration where a lot of calls need to be sold (I assume most Tesla retail call buyers will want to unload their calls rather than exercise for very expensive stock) could cause some downward pressure on those types of stocks tomorrow and into next week, but we'll see.
The key here is this is interesting data from the options market and something to watch for. There are no guarantees of anything after this expiration. Long gamma and low volatility in the market can last a lot longer than most people think. And on story stocks it would make sense that retail would keep going with what's working, until it doesn't.
The thing that ties both of these aspects of the options market together is that there isn't much demand for puts in either case. If you were looking for a moment to start to look the other way in the market, either outright or as a hedge, downside is as cheap as we've seen since the beginning of the year.
For instance, here's a bearish price target, into October expiration in the SPY, via Options AI:
Here's the individual legs of that trade:
And here's how it looks on the chart:
The breakeven on that trade is around $333.50 and it is profitable down to $321 in the stock with a nearly 3 to 1 payout.
There's no guarantee what happens next in the market and what we've seen could continue. But some aspects of the options market are affecting both the market itself as well as providing an opportunity in case things suddenly shift.