Stocks Tank Ahead Of 'Early' OpEx, "Market Remains Under-Hedged"

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by Tyler Durden
Monday, Apr 11, 2022 - 03:59 PM

The major US equity markets have all extended losses this morning, breaking below key technical support levels.

S&P broke below its 200DMA (and is testing towards its 50DMA). Dow failed at its 100DMA and is testing down to its 50DMA. Nasdaq and Russell 2000 broke below their 50DMAs...

...all tumbling as the yield curve steepens dramatically back up to pre-March-FOMC levels (reminder, it is the un-inversion that sets the clock ticking on recession, not the inversion itself)...

And as long-duration (growthy) stocks plunge to one-month lows (or much worse on an idiosyncratic basis), with Nasdaq testing the 14,000 Maginot Line once again...

...which just happens to be exactly where the 'Put Wall' support is...

...the question is what to do tactically (strategically - as we detailed here - rotating from 'slowdown' to 'contraction' suggests investors benefit most from the old-school “Duration Barbell” approach of “Low Risk,” “Size” and “Quality” relative leadership being paired with “Growth” and “LT Momentum”).

SpotGamma notes that due to markets being closed Friday, Thursday is OPEX wherein we show ~20% of the total S&P500 gamma expiring. The decay and expiration of put positions we generally view as supportive of markets, as is the case here. While these put positions are not particularly large, their decay, along with the decline of implied volatility[IV] (i.e. VIX) can offer a light tailwind. Further, the center of attraction for this current market is that 4500-4520 (SPY 450) area due to the high gamma in that area.

Its important to note here that there is a relatively decent amount of gamma expiring, but not delta. Large deltas expiring is what drives major moves into OPEX, as deep in the money options positions are closed. Because its mainly gamma positions expiring, we view this OPEX more as a “pinning” force, rather than a large, directional “March” type move.

Finally, despite giving edge to the scenario above, we continue to flag elevated risks that will likely remain through OPEX. Markets are in a negative gamma position, with elevated IV. We think that the market remains under hedged, and a sharp downside move could set a “trap”.

This trap is the reflexive feedback loop that kicks in wherein traders buy puts which adds to dealers negative gamma position. They hedge by shorting futures, which drives markets lower. This brings more demand for puts, and higher IV, which leads to dealers needing to short incrementally.