“So what was yesterday all about?”, Nomura’s Charlie McElligott asks, in a Friday note.
As usual, he has the answers – or at least he has a list of plausible answers which, taken together, comprise the most comprehensive assessment you’re going to find on such short notice. Charlie conducts postmortems within hours, whereas similarly granular breakdowns would take most analysts days.
He kicks things off with a jab at the Robinhood crowd.
“Clearly the Robinhood-, Barstool / Davey Day Trader- and Reddit/wsb- phenomena took a hard lesson and, potentially, margin calls, playing a role in yesterday’s purge”, he says, noting that a “retail favorites” basket has plunged more than 16% in two days.
The macro catalyst is obviously “second wave virus risk” in the US and the possibility of rolling shutdowns in various locales, something Steve Mnuchin was keen to dismiss as impossible.
Jerome Powell’s purported role (talked up by Donald Trump and Larry Kudlow on Thursday) was, in my opinion, minimal. I certainly didn’t hear anything “new” in Powell’s press conference on Wednesday. And if you look at the long-term projections for potential growth and unemployment in the SEP, they are unchanged from December.
After flagging “tactical profit-taking in recent high flyers” (which McElligott notes “became stop-losses for late-comers”), Charlie details the role of systematic selling.
“There was absolutely an element of systematic flow in the mix due to the price-shock lower”, he writes, noting that his famous CTA model estimates six of 13 global equities futures “either ‘flipped short’ or got ‘more short’ into the move” thanks to shorter-term look-backs pivoting.
Throw in some “long deleveraging” on the other seven, and you end up with what McElligott says was “an aggregated -$96.5B of estimated notional global equities futures SELLING in the systematic trend space” (figure above).
That said, if you ask Charlie, “the vol side of the equation was the ‘tail that wags the dog'” on Thursday, as is so often the case in modern markets.
“Yesterday’s moves were monster”, he notes, flagging a five-vol move in one-month SPX contracts and “skew racing across short-dated”.
(Nomura)
And don’t forget about the tail-grabbing. Vol-of-vol moved sharply higher, up 30 vols on the day.
The next question is why the move was so vol-centric. You can probably anticipate Charlie’s answer.
“The Dealer gamma position flipped SHORT midday [Thursday] in SPX/SPY consolidated options on the initial move through 3,085 to the downside”, he writes.
That collided with a break lower in Europe around the cash close across the pond, where McElligott reminds you “a number of large vol Dealers reside”. That explains why there are often big moves in the US between 10:45-11:45 EST.
The following visuals represent Thursday’s gamma/delta profiles (i.e., to illustrate the point).
(Nomura)
Since then, we’ve bounced back to the gamma neutral level (now around 3,046), which he attributes to vol Dealer flows “subsid[ing] and/or reset[ing] especially on the variance swap delta hedging side”.
And there’s more. So much more. But the above gives you the flavor of McElligott’s postmortem (I suppose using the word “flavor” with “postmortem” isn’t the best combination).
I’ll likely fold additional observations from Charlie into subsequent posts on Friday and into Saturday, but for now, I’ll leave you with three bullet points from McElligott which summarize the above:
- And here is why this this matters: as stated in the note to this point, yesterday was classic butterfly effect knock-on, with a “macro catalyst” from the COVID wave #2 risk-off trade which then triggered “profit-taking-turned-stop-loss selling” from both tactical discretionary traders and the super euphoric / frothy retail set
- And yes, as aforementioned systematic “sell” flows kicked-in (pressing shorts or outright “long selling and flipping short,” this then ultimately created the “accelerant” for this very “GAMMA” —centered move as Vol Dealer hedging was heavy into close
- But that too is a large part of why we’ve snapped back, especially as I don’t see much of any expected follow-through flows immediately here (although we will AGAIN need to reset these expectations into next week’s SERIAL / QUARTERLY Options Expiry)
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