For now, a combination of rates that “just can’t selloff” and gamma “gravity” means US equities – the global risk asset bellwether par excellence – remain supported and perched near record highs and what some believe are nosebleed valuations.
As stocks climbed again on Thursday morning, Nomura’s Charlie McElligott reiterated why it is that bonds have had such trouble validating expectations for sharply higher yields in the first few weeks of 2020.
“[A] Goldilocks US Economy with benign inflation, [the] Fed’s asymmetric policy reaction function alongside my belief that ‘QE-Lite’ turns to ‘outright QE’ in time and the secular disinflationary realities of the ‘Three D’s'”, continue to weigh on long-end yields, frustrating those who piled into reflation trades late last year, and stymying the curve’s nascent efforts to bear steepen.
And so, cross-asset vols are suppressed by easy financial conditions, which in turn spells gains for risk assets.
You’ll recall that it’s the by-now-familiar gamma “pin” that’s helped keep stocks sticky “up here” (as McElligott is fond of putting it). “The current 96th %ile aggregate Dealer ‘Long $Gamma’ position (~$31B between 3290 / 3300 / 3310 alone!) continues to act as a ‘gravitational force’ for the S&P”, he writes on Thursday.
Going forward, things have the potential to get interesting, though, if there’s an unshackling, as it were.
Charlie calls it a “BIG ‘if'”, but if many of the options keeping things pinned aren’t rolled, it would free things up to start moving again.
“Per our estimates, nearly 36% of the total $Gamma across strikes is set to drop-off following Friday’s expiry, which should then allow us greater freedom to move in either direction”, he writes, adding the following crucial color:
This is particularly important because although we see such an epic Dealer “Long $Gamma” position in aggregate, it’s very much focused ATM—but in the wings, they look “Short” so IF we were to see an impulse LOWER in $Gamma from the post-expiry “roll-off,” we have scope for sloppier price-action ($gamma flips negative to the downside ~ 3240, with Dealers too “a lot less long / potentially short” to the upside around 3400 as well)
As Warren G famously put it 25 years ago, “if I had wings I would fly, let me contemplate…”
Of course, if this is all rolled out and up, then we may find ourselves back in the fortuitous position where price swings and volatility are damped by positioning.