When I talk about “brave new markets,” I’m generally referring to market microstructure in general, but there’s typically a “facet du jour,” if you will — some specific aspect that’s piquing investor interest at any given time.

At various intervals, CTAs became an obsession for market participants keen to blame “the machines” during selloffs, for example. And during the pandemic equity bonanza, weaponized gamma was all the rage, particularly when it became apparent that the Reddit crowd was aware of its capacity to engineer self-fulfilling prophecies through collective action.

Currently, 0DTE options are the hot topic. I’ve obliged with at least a half-dozen articles in three weeks.

One point of interest is the impact of these options on intraday price action and, as a consequence, volatility. According to Nomura’s Charlie McElligott, the increasing prevalence of short-dated contracts (basically one out of every two traded options in SPX and SPY over the past month, for context), is feeding intraday price swings.

McElligott was keen to note Thursday that due to the flow split (customers buying and market makers selling) there’s probably not much in the way of systemic risk from this phenomenon yet, given that the short gamma is being managed by MMs, not Call of Duty addicts shorting vol from their gaming chairs. That said, he emphasized that “trading is just so much noisier now than ever before.”

“These flows by and large have recently resulted in enhanced periodic intraday vol through the creation of ‘accelerant flows,’ as the MM short gamma is hedged in these super convex instruments with a lifespan of 6.5 hours max,” he wrote, on the way to spelling out the read-through for realized vol.

“The inherent same-day monetization pressures often acts to create a ‘reversal flow’ later in the session, which is potentially (and perversely) contributing to a compression of close-to-close rVol [at] the index level due to an almost continuous mean reversion,” Charlie continued.

Of course, that too has knock-on effects. For instance, the suppression of realized vol versus implied encourages selling of medium- and longer-dated options for income, which in turn “leans on vol further [acting] as a key catalyst behind the persistent inability for volatility to squeeze higher despite spot selling off in recent days,” as McElligott went on to explain.

Charlie stylized this as a situation where market makers are conceptually “‘short (the daily) straddles,’ which has created [an] incredibly defined intraday support / resistance bands, which are then used by the long 0DTE option holders as ‘trigger points’ [to] trad[e] around the intraday mean-reversion tendencies.”

So, what could go wrong? Well, if some left-field, exogenous “shock” catalyst came knocking (a geopolitical escalation, for example), spot could careen through the straddle range, and if CTAs get triggered along the way, the cascade effect could kick in. That’s one possibility.

Finally, I’d be remiss not to highlight the example McElligott used to illustrate “the power of 0DTE.” You don’t need the context, just the quote is enough to drive home the point:

These puts have already doubled+ in value and what was initially a 35delta put 15min ago is now 50delta so ‘only’ $2bn for sale is now becoming $3bn for sale…a lesson in gamma in real-time. This option in the money, i.e. below 4000 on the close, would make it a $5bn position that needs hedging.