The relentless gamma meltup of late August, early September is now ancient history, and following today's "quad witch" expiration, Nomura's Charlie McElligott writes that the "Nasdaq is open to a MUCH larger trading range coming-out" following what he calls a "staggering collapse" in dealer gamma, with 63% running off and now totaling a negative -$564.5mm, which is not only the lowest since late 2018 when the market suffered its first mini bear market of the post crisis period, but is also just a 2.3 percentile since 2014...
... while dealer Delta is -$15.5B, just 2.8%ile since 2014...
And unlike just two weeks ago, when spot was solidly in positive gamma territory, dealers are now near the extremes of "short gamma" territory vs spot, with QQQ spot at $272...
... far below the "gamma neutral" line at $281.64.
To McElligott, this matters "because the QQQ $270 strike probably needs to and probably will be well-defended today by market-makers short this monster in size", but if selling persists and the $270 "trigger" in QQQs is taken out, that's when "things could get sloppy to the downside into next week."
Away from the Nasdaq, the Nomura cross-asset strategist believes that the S&P seems "safe" as it is currently pinning around the “gamma neutral” level of ~3380 (3360 spot ref).
A few more observations as we head into this key for market volatility day, first looking at factors, where McElligott notes that the last few days look pretty "gross-down-ish" which he views as "rational" in the risk-management sense, as books trade through VaR limits in light of the recent vol events and need to be reduced. This is important because what on the surface may look like "Value over Growth" rotation "is really about the mechanical realities of reducing partial of your longs and covering a portion of your shorts."
Meanwhile, in volatility, Charlie recently discussed the disconnect and dysfunction in the vol space imminently prior to the crash and noted that "smart guys were taking-advantage of the rich implieds in the Tech bellwether single-names and began to short vol again because the demand drivers were blown out of the market, thus effectively putting on “buy the dip” market expressions thereafter, and those vols have since been SMASHED."
Looking at vol now, the Nomura strategist says that it now seams reasonable again to look at going long some vol/gamma/owning optionality into pending risk event catalysts (the election, trade deal, vaccine and earnings), especially since Dealers are increasingly unable to go sizeably short gamma or vega into that wall of “risk events” and as they look to protect themselves from a risk-management PNL perspective.
Next, picking up on the recent discussion of vol control funds, McElligott notes that the switch he anticipated from Vol Control moving from the 3m- to 1m- realized as their allocation input has been a critical shift in flows, "as we removed what had been a source of almost daily latent buying to one that has now turned a local incremental “seller” with -$18.3B over the past 2w since the vol shock event."
As a result, Nomura we would anticipate a sell in almost every circumstance: only a flat 0% return would see a small “buy” (+$0.3B), while -2% is a sale of -$5.4B and +2% is a sale as well (-$5.1B).
Finally, Charlie mentions increasing market chatter "among a handful of clients that contrary to the rapid shift in consensus that a new stimulus (4.0) deal would not happen before the election, "could be caught flat-footed, with a few folks believing that this year’s election “October Surprise” might not be vaccine-related (as speculated by some), but instead, potentially about a stimulus “deal” getting done by mid/late Oct as a potential monster pain-trade catalyst for a “pro-cyclical” risk-ON and bear-steepening/reflation catalyst" into what is already a powerful year-end seasonal going forward. And since so many have now given up hope of this possibility, the market implications could be profound.