Remember the call spread buyer?

If not, I won’t trouble you with the specifics on a Friday afternoon. Those interested can review the brief backstory here. Suffice to say equities were trading with a kind of upside overhang tied to index option plays which had the potential to create overhead pushback on a rally.

“The problem was that the whole market knew there was ultimately going to be ~$7-8 billion of delta / S&P futures puked back into the market” on an eventual unwind if the buyer “launched all of the various structures,” Nomura’s Charlie McElligott reminded traders in a late Friday note. More colloquially: That latent supply was a wet blanket.

Well, according to Charlie, that buyer looked to be “tapping out,” or at least out of “a large chunk of their trades.”

“Throw the damn towel!”

Those of you who read the linked article above might recall that the initiation of that massive trade turned what would’ve been a large vol supply event into a vol buy. Now that it’s being unwound, “dealers will be getting back a massive amount of their prior short vega and gamma,” McElligott went on.

That’s key. Once that trade is out of the market, the potential for directional moves to be amplified by dealers will be reduced. To employ Charlie’s vernacular, dealers won’t be “feeding accelerant flows.”

McElligott described the closing out of this position as a prerequisite for vol normalization. “If all the positions were taken down [it] would enormously reduce the recently violent ‘vol outperformance versus spot’ dynamic,” he wrote, adding that “this is the primary reason” why Wall Street’s Friday selloff was met with “flattish ‘no cares’ VIX futures.”

This all took place into monthly OpEx. A sizable gamma rolloff opened the door to a wider distribution of outcomes, which you need to weigh against everything said above. “There is no ‘all clear’ when VVIX remains parked at 115,” McElligott remarked, adding that tail demand suggests “we can remain stressed, particularly as client hedging is moving away from short-dated, one-day event risk into the ‘unknowable.”