If you’re curious, or I guess I should say on the off chance you harbored any doubts, Santa Rally’s still the consensus on Wall Street. Nothing’s certain, of course, but there are any number of scenarios and flow permutations that could help US shares build on what’s already a banner year.
As noted here briefly last week, positioning’s actually not all that stretched among systematics and the sundry active professionals who together fall under the “discretionary” umbrella.
Fund flows are monumental, of course. US-focused equity ETFs and mutual funds just saw their largest four-week inflow on record, a staggering $141 billion. And yet, despite that 100%ile (by definition) tsunami, positioning’s pretty middling across the above-mentioned investor cohorts.
So, there’s scope for re-leveraging there, and then of course there’s the corporate bid. On top of that, the door’s still open to a raucous, options-enabled crash-up.
“The energy remains for a year-end ‘spot-up, vol-up’ rally not just on performance-chasing, but also mechanically thanks to pockets of dealer short gamma,” Nomura’s Charlie McElligott said Monday, pointing to a smattering of upside hedges (i.e., calls) dealers are short to clients.
The figures above, from Charlie, give you a sense of the situation. There’s a ton of long gamma (i.e., “insulation,” if you like) just north of spot, but beyond that, there’s some dry kindling.
The right-tail hedges (out-of-the-money calls) highlighted in green “could act as an upside accelerant flow if we were able to blow through the enormous dealer gamma at the 6050 strike,” McElligott wrote.
He sketched the prospective sequencing. “We see SPX sitting a bit below the mega 6050 Call strike, so the gamma in a +1% SPX rally goes even longer and more substantial at +$13.8 billion, but if we zoom up to an SPX +2% scenario, we then see negative gamma of -$0.4 billion per 1% to potentially feed ‘spot up, vol up,'” he wrote.
In the meantime, an all-too-familiar supply overhang from the usual systematic vol-selling suspects has spot pinned, which in turn suppresses realized vol.
The figures above, also from Charlie, show you the rVol crush (one-month obviously moved up of late, but it’s bleeding again now, as is three-month) and the projected read-across for vol control strat re-leveraging (the green box in the table on the right).
Target vol bought some $19 billion of US equities futures last week, and in the event spot stays relatively well-behaved, those strats will mechanically dial up their exposure into Christmas to the tune of $26 billion or so on Nomura’s estimates.
That, McElligott wrote, is the real “invisible hand.”
