RE: Interesting insight into drop4 Sep 2020 01:09
This is a very decent explanation,
Rampant demand for call options in names like Facebook Inc. and Salesforce.com Inc. has left derivative dealers on Wall Street dramatically short gamma, a measure of the change in an option’s sensitivity to moves in the underlying shares.
As the stock rises, the dealers need to buy more to hedge their exposure. With a large number of call contracts outstanding and “relative illiquidity” in some of these single-name shares, they have been forced to turn to proxies such as the S&P 500 and Nasdaq 100, according to Hennessy. In order to hedge, dealers have been buying implied volatility on these benchmarks too.
Over the past few weeks, there has been a massive buyer in the market of Technology upside calls and call spreads across a basket of names including ADBE, AMZN, FB, CRM, MSFT, GOOGL, and NFLX. Over $1 billion of premium was spent and upwards of $20 billion in notional through strike – this is arguably some of the largest single stock-flow we’ve seen in years. “The average daily options contracts traded in NDX stocks to rise from ~4mm/day average in April to ~5.5mm/day average in August (a 38% jump in volume).
As the street got trapped being short vol, other names in the basket saw 3-4 standard deviation moves higher as well – on Wednesday FB rallied 8% (a 3 standard deviation move), NFLX rallied 11% (a 4 standard deviation move), and ADBE rallied 9% (a 3 standard deviation move).
The most natural place to hedge being short single name Tech volatility is through buying NDX volatility. As such, there has been a flood of NDX volatility buyers with NDX vols up about 4 vol points in 2 trading days. And if NDX volatility is going up, SPX volatility/VIX will eventually go up too.
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