Speaker 1: Hello, and welcome to another episode of the Odd Lots Podcast.
Speaker 1: I'm Tracy Alloway and I'm Joe wisn't Joe? Do you
Speaker 1: remember armacgeddon? Oh? Wait, let me start over? I cried,
Speaker 1: I cried, keep that. Do you remember Val mcgeddon. Uh? Yeah.
Speaker 1: If you asked me exactly when that was twenty eighteen, okay,
Speaker 1: I wouldn't have nested. Maybe I would have said twenty
Speaker 1: seventeen or something, but yeah, something crazy happened. And like
Speaker 1: so I think with the vvgs and some ETN or something.
Speaker 1: I don't this is a moment in market I'm still laughing. Sorry.
Speaker 1: This is a moment in market history that lives for
Speaker 1: free in my head because it was a lot of
Speaker 1: interesting things happened. So for those who might not remember
Speaker 1: all the details, there were these two little volatility products
Speaker 1: to exchange traded notes that basically ended up having this
Speaker 1: huge impact on the market and specifically the volatility index,
Speaker 1: the VIX. And so you had this kind of tail
Speaker 1: wagging the dog scenario where you had two products that
Speaker 1: ended up impacting the overall market. Yeah, and you know
Speaker 1: what was really notable about the post twenty ten environment
Speaker 1: is that just keeping a steady short volatility trade on
Speaker 1: was extremely profitable for years, and people sort of just
Speaker 1: get rauled into it because, you know, by the dip
Speaker 1: was like this sort of dominant thing. You had the
Speaker 1: FED sort of on your side, typically playing some role
Speaker 1: of you know, the FED put and all of that,
Speaker 1: and you had the residual anxiety of the crisis. So
Speaker 1: people were paying a large premium for protection, volatility protection.
Speaker 1: So being a seller of that and sort of being
Speaker 1: implicitly short volatility was just great until the one day
Speaker 1: it wasn't. Well. This is why these two exchange traded
Speaker 1: notes came into being in the first place. It was
Speaker 1: because people wanted to be able to sell volatility, and
Speaker 1: I remember they became very popular with a certain faction
Speaker 1: of retail traders. There was even a sub credit called
Speaker 1: a trade XIV, which was the name of one of
Speaker 1: the notes. Yeah. Yeah, it has since rebranded to Trading
Speaker 1: Vault because we had this vall mcgeddon situation and both
Speaker 1: of these exchange traded notes ended up collapsing. So not
Speaker 1: only did they sort of spark this wider move in
Speaker 1: the market, but they ended up dying because of it.
Speaker 1: What's interesting in retrospect and I hadn't really thought about this.
Speaker 1: But what's interesting in retrospect about this story is that, Okay,
Speaker 1: in twenty eighteen, the retail move was like, okay, trade
Speaker 1: XIV or go along XIV, and that was sort of
Speaker 1: like how people played this post twenty twenty. Now you
Speaker 1: get the sense that retail is playing derivatives more directly,
Speaker 1: particularly call options, and so then rather than some note
Speaker 1: or instrument that implicitly did that. Now, of course, the
Speaker 1: story of the Robin Hood and all that is lots
Speaker 1: of people are just getting directly into options trading. That's right,
Speaker 1: and the big story in options right now. And the
Speaker 1: reason I brought up val mcgeddon not Armageddon, which thankfully
Speaker 1: hasn't happened yet, is because eight thank you for the caveat.
Speaker 1: You never know, all right. So the reason why we're
Speaker 1: talking about val mcgeddon is because you have this new
Speaker 1: type of option on the scene. They're called one day
Speaker 1: or zero day options, a zero DTE or one DTE,
Speaker 1: and they've kind of exploded in volumes in recent years,
Speaker 1: and there's a lot of discussion about whether or not
Speaker 1: they are going to lead to a similar val mcgeddon
Speaker 1: type scenario where you have, you know, this small thing,
Speaker 1: although they're not that small anymore, but you have this
Speaker 1: small instrument that ends up having a cascade effect on
Speaker 1: the market and leading to a bigger effect on the
Speaker 1: SMP five hundred, the benchmark index. Right, And as always
Speaker 1: there are these concerns that any sort of derivative instrument
Speaker 1: which is you know, might be used for hedging purposes,
Speaker 1: could have this feedback loop. And of course the classic
Speaker 1: there's like nineteen eighty seven and yeah, and the Stock
Speaker 1: market Insurance sort of they called it. And the other
Speaker 1: thing you note, and this is sort of what's interesting
Speaker 1: to me and why we're talking about this. It's like,
Speaker 1: in twenty twenty one, I think we had a very
Speaker 1: good story for why there was so much of this
Speaker 1: sort of zero data expery option trading. Right. This story
Speaker 1: is like all of these new degenerate gamblers and they're
Speaker 1: on robin hood and they're like trading these hypervolatile derivatives
Speaker 1: that you know, they're short term bets and they're just
Speaker 1: being swings. We've had this cool and off of speculative
Speaker 1: activity over the last year, as clearly seen by prices, right,
Speaker 1: you know, Bitcoin and arc and all these things have
Speaker 1: come way down from their high and yet the level
Speaker 1: of trading in these instruments is still very high, which
Speaker 1: complicates the a story that oh, it's just a bunch
Speaker 1: of like retailer at home gambler. I was about to say,
Speaker 1: I think it hints that maybe it's not just retail
Speaker 1: and this is something that I've written about on All
Speaker 1: Loots and you should all check it out. And speaking
Speaker 1: of what I wrote on a blots on the blog recently,
Speaker 1: we were going to actually be speaking to the perfect guest.
Speaker 1: We're going to be speaking with Nomura Cross Assets strategist
Speaker 1: Charlie McElligott. He was the author of a very very
Speaker 1: good research piece that I wrote up a couple months
Speaker 1: ago and has been writing quite a lot about this topic.
Speaker 1: So Charlie, thank you so much for coming on All thoughts.
Speaker 1: Excited to be here, a long time listener, first time calling.
Speaker 1: I love it. Maybe just to begin with talk to
Speaker 1: us about what these options are exactly and how they
Speaker 1: came into being and also their intended purpose, because I
Speaker 1: think nowadays people talk about them as oh, it's part
Speaker 1: of this speculative betting frenzy, but I assume they're supposed
Speaker 1: to serve some sort of purpose. Absolutely, So you know,
Speaker 1: I would I would almost start this conversation going backwards
Speaker 1: by saying, look at the stock chart of the CBO
Speaker 1: right now, right, which is almost a proxy on the
Speaker 1: explosive growth and usage of options, you know, from the
Speaker 1: investing community, whether it's institutions or retail investors, and it
Speaker 1: does fit somewhat tidily with this larger kind of speculative
Speaker 1: excess boom of the past two and a half three
Speaker 1: years in that post crisis period, the Wall Street bets
Speaker 1: stuff that you guys just spoke about, you know, the
Speaker 1: stimmy checks and you know SPACs to crypto. You know,
Speaker 1: this kind of new world of leveraged, highly convexed payouts
Speaker 1: is a place where flows and money followed, and this
Speaker 1: is the type of return profile that people are really
Speaker 1: looking to looking to exploit in this day and age.
Speaker 1: And in that sense, that's the unspoken portion of why
Speaker 1: these are have been rolled out and offered. Now there's
Speaker 1: daily expirations, there's an expiration for every day of the week,
Speaker 1: and the zero DTE product is now almost one out
Speaker 1: of two options the trade with the spy ETF for instance, right, So,
Speaker 1: and you know effectively there too for large S and
Speaker 1: P which is almost exclusively an institutional product, So the
Speaker 1: demand is there. I think the official line, probably from
Speaker 1: the exchanges, would be something to the effect of, we
Speaker 1: want to offer the net end users more tools to
Speaker 1: manage their risk, manage their liquidity profile, things of that nature.
Speaker 1: And look, that is not wrong either. Right when did
Speaker 1: CBO actually launch things? You know, kind of call it
Speaker 1: mid last year? Okay, oh, okay, so they really have
Speaker 1: not been around very long. So options, right, hedge risk,
Speaker 1: that's what they're all about in theory, and someone like
Speaker 1: maybe take some more spectative position. Someone needs the hedging,
Speaker 1: they trade an option, etc. How do you go about
Speaker 1: trying to decompose how the instrument is actually used and
Speaker 1: how much is it from Okay, you have a large
Speaker 1: portfolio manager that needs to hedge their downside, etc. Versus
Speaker 1: how much of it is being driven by someone who
Speaker 1: wants to make a bet on what Tesla will do tomorrow. Right,
Speaker 1: that's a It's a great point, and I think that
Speaker 1: is where you know at this point, you know myself,
Speaker 1: my colleagues Anthony Antonucci and Johanna Wang have done some
Speaker 1: pretty quality work here. I think unpacking that exact idea,
Speaker 1: like just looking at open interest, just looking at volumes
Speaker 1: themselves is not indicative of anything. Right, we need to
Speaker 1: get a sense for you know, are the net end
Speaker 1: users buying or selling these? Right? It speaks to the
Speaker 1: macro regime, speaks to the volatility regime. Right, you could
Speaker 1: say it to a certain extent looking back in the
Speaker 1: kind of QE era, let's say where we did or
Speaker 1: where FED was an active suppression of volatility mode large
Speaker 1: scale asset purchases zero percent or negative interest rates. You know,
Speaker 1: that was part of this idea. You create a wealth effect.
Speaker 1: Financial conditions are easy. It's a growth tail end. All
Speaker 1: that good stuff, virtuous stuff happens. The FED was telling
Speaker 1: you to be leverage long assets. Right, so you had
Speaker 1: a need for hedges to a certain extent. So like
Speaker 1: a measure like skew right, which is a measure of
Speaker 1: kind of downside demand relative to upside demand, like the
Speaker 1: credit Swiss fear barometer right right to a certain extent
Speaker 1: right so or or even you know specifically put skew,
Speaker 1: which is like demand for a tailier or crashier put
Speaker 1: relative to something closer to the money. Those measures were
Speaker 1: very high skew was very steep back then because you're
Speaker 1: long leverage, long assets, you needed downside protection. And this
Speaker 1: gets to the point though of why selling valld xav
Speaker 1: was so profitable, because if you have so much demand, right,
Speaker 1: you have the structural demand for protection, lots of buyers,
Speaker 1: a good market to be seller exactly. And what it does,
Speaker 1: I mean the way that you look at volatility, it's
Speaker 1: kind of different from this um you know. I It's
Speaker 1: what I've learned from being in the vall space, specifically
Speaker 1: within the Numero Equity drives desk for the last five years,
Speaker 1: which is, you know, a top three market share player
Speaker 1: in the US options space, is that it's it's a
Speaker 1: consistent shuffling of your feet. You're trying to find value,
Speaker 1: trying to find kighie convexed payouts right, which to a
Speaker 1: certain extent, is why these options exist in the first place,
Speaker 1: where there's so much demand for them. You know, you
Speaker 1: have a kind of a defined risk, but a much
Speaker 1: larger kind of multiple times implicit leverage you know on
Speaker 1: the payout right if this thing you know strikes gold,
Speaker 1: you know to a certain extent, so you're kind of
Speaker 1: range trading when something is cheap, or when Vaula is
Speaker 1: cheap is when you want to be adding protection. When
Speaker 1: Valla is rich, that's typically when you want to you know,
Speaker 1: flip positions and be you know, kind of short volatility
Speaker 1: or short gamma. So those those are all part of
Speaker 1: the calculus here. I think what matters then, However, in
Speaker 1: this QT era right where the Fed has their hands
Speaker 1: tied in light of the inflation overshoot, in light of
Speaker 1: this dynamic where you know, they were clearly behind the curve.
Speaker 1: I mean it was just a year ago at this
Speaker 1: time they only stopped buying bonds, might you, Right before
Speaker 1: they even began, you know, their first hike, they were
Speaker 1: still buying bonds. So they've needed to tighten financial conditions.
Speaker 1: They've needed to try everything they can in their limited
Speaker 1: tool kit to address you know, the wealth effect that
Speaker 1: was caused from these you know, legacy ten year plus
Speaker 1: easy financial conditions, and that means cramping you know, the
Speaker 1: demand side of inflation through tightening FCI. And in this case,
Speaker 1: what QT has meant was a very simple trade and
Speaker 1: that's why you know it was such a clear trend
Speaker 1: in twenty twenty two. It was kind of like long
Speaker 1: dollar in short assets. That's why like CTAs for instance,
Speaker 1: were you know, thirty some percent, like there was a
Speaker 1: very clear defined trend, the FED was effectively telling you
Speaker 1: to be short assets. Right. What we saw then was
Speaker 1: this trade that still kind of exists to this day,
Speaker 1: even for the most recent Jerome pal commentary, which was
Speaker 1: kind of this view that when you're in a in
Speaker 1: a kind of a stretched equities valuation, the FED is
Speaker 1: de facto a seller of calls at the low end
Speaker 1: of the equities valuation. They don't want to market crash
Speaker 1: per se either. Then they kind of talk you off
Speaker 1: the ledge and they're a seller of puts. We're bouncing
Speaker 1: around this range. But in QT right, in a QT
Speaker 1: era where you know, they're shrinking the balance sheet, where
Speaker 1: they're jacking up rates, they're trying to tighten financial conditions,
Speaker 1: it kind of perversely creates this situation where you're being
Speaker 1: told to be short assets. You actually don't need as
Speaker 1: much hedge protection. So one of the big questions for
Speaker 1: the last year like why is VIX so low? Right,
Speaker 1: And that's part of this idea. If you don't have
Speaker 1: a lot of exposure on you're sitting in high cash
Speaker 1: you're sitting in low nets. You don't need a lot
Speaker 1: of like crashy downside. This is such a that clicks.
Speaker 1: This like finally feels like it clicks and answer. It's
Speaker 1: like a big question. It makes so much sense, right
Speaker 1: if you're if you're if the feed is telling you
Speaker 1: hold more cash, don't be so leverage. Yeah, then you
Speaker 1: sort of have your built in hedge already cash is
Speaker 1: and at the money put it. Yeah. So just a
Speaker 1: really basic question. I know you've done some research on this,
Speaker 1: but what does the split actually look like between institutional
Speaker 1: versus retail usage right now? Well, I think that's part
Speaker 1: of some of the the you know, fuzzy assumption that
Speaker 1: makes this an uncomfortable discussion. You know, I don't truly
Speaker 1: trust men, whether it's you know, cash percentage of the
Speaker 1: overall cash equities universe, or um you know, assumptions about
Speaker 1: options trading. With regards of this idea of what is
Speaker 1: retail versus institutional, I think a lot of people do
Speaker 1: kind of a naive analysis looking at the size of
Speaker 1: saying you know, as it pertains to the options discussion,
Speaker 1: looking at the size of options contracts, and then you know,
Speaker 1: under a certain threshold. They will kind of label those
Speaker 1: as Okay, this is you know, retail type size, and
Speaker 1: then you get this, you know, potentially false narrative. I
Speaker 1: think the issue is that, particularly with this product, it's
Speaker 1: an electronic options product, which means it's a market maker.
Speaker 1: Is kind of the counterpart here. It's going to be
Speaker 1: my next question you get into that. But and and
Speaker 1: who who are the savvyest electronic options market makers with
Speaker 1: the best algorithms, the best risk tools. It's these entities
Speaker 1: that you know, you know, no no specific names necessarily
Speaker 1: I'll use, but you know, are incredibly savvy with those algorithms.
Speaker 1: They're slicing and dicing up their risk all day. So
Speaker 1: you're not going to see huge, blocky types of flows
Speaker 1: that you know you could typically pinpoint and say, you know,
Speaker 1: because just because something is an odd lot does not
Speaker 1: necessarily mean it's retail correct. I mean you're I mean
Speaker 1: I well, in my in my past career, on a
Speaker 1: cash desk when I started out of college, I sat
Speaker 1: at a dot machine and I had a time schedule
Speaker 1: for every minute of the day on a view op order,
Speaker 1: a tuop order, I had to send down one hundred
Speaker 1: and twenty shares at nine fifty nine at ten am,
Speaker 1: I had to send down one hundred and forty shares
Speaker 1: at right. I mean, that's how this thing works. You're
Speaker 1: on a you know, this distribution curve, so that's kind
Speaker 1: of imagine that now times like a much larger risk
Speaker 1: order than you have. So I have a hard time
Speaker 1: attributing retail institutional here. You know. One thing that I
Speaker 1: will say is that recently, what you have seen which
Speaker 1: proves out this idea that this clearly is an institutional
Speaker 1: product by and large, is you have seen kind of
Speaker 1: upstairs size premium spent, right, so the amount of money
Speaker 1: that the net end user is spending up front to
Speaker 1: directionally buy. In this case, recently we've seen some large
Speaker 1: put buying. Right. This is again you're sort of like
Speaker 1: leading into all my next questions. But this is an
Speaker 1: unusual thing about these shorter dated options, which is that
Speaker 1: I think the split between put volume versus call volume,
Speaker 1: it's very skewed in one direction. Why is that? Well,
Speaker 1: I think the simplest thing I would say right now,
Speaker 1: and this will kind of go into some of the
Speaker 1: work though our team has done to kind of assign
Speaker 1: this idea and to kind of push back as it
Speaker 1: currently stands, this is an ever evolving product. And look,
Speaker 1: each day, I like to say, is its own ecosystem
Speaker 1: now with these products. So there's not necessarily going to
Speaker 1: be a carryover of prior day trend, but generally so
Speaker 1: you could have a day where it's mostly puts where
Speaker 1: which it has been so far, and then you could
Speaker 1: have a day where it's mostly calls, well to a
Speaker 1: certain extent. But this is the deal. This is kind
Speaker 1: of at core of how these things are trading right now.
Speaker 1: By and large, there's an inherent almost by definition mean
Speaker 1: reversion flow from these things, because whatever you're putting on
Speaker 1: intra day ultimately then if if it's moving in your
Speaker 1: direction ultimately then needs to be unwound and monetized. So
Speaker 1: the actual impact that you're getting. So let me walk
Speaker 1: you through kind of the way that one we're identifying
Speaker 1: these flows and trying to assign a buy or a cell.
Speaker 1: The CBO handles options flows, let's say, for kind of
Speaker 1: you know, index and ETF options type stuff, and what
Speaker 1: we do is they assign a kind of an end
Speaker 1: user tag, right, so there's kind of a broker dealer
Speaker 1: traditional let's say like upstairs, big bank options tailers. Sorry,
Speaker 1: just before we go on, what is I think it's
Speaker 1: the second time you've said upstairs. What does that mean? Sure? Sure,
Speaker 1: so just speaking to actual high touch sales traders and
Speaker 1: risk takers, not necessarily on the floor of the exchanges, right,
Speaker 1: but more associated with large balance sheet banks, the big stuff.
Speaker 1: If we if we did a subscriber only version of
Speaker 1: odd Lots, we could call it upstairs. Yeah, that's kind
Speaker 1: that's kind of nice. So in this case, you know,
Speaker 1: the broker dealer tag with these products is actually there's
Speaker 1: no clear angle to these to these flows. Right. You
Speaker 1: can see everything that they're trading in these zero DT options,
Speaker 1: and some days they are long and some days they
Speaker 1: are short. Market makers right in this definition, are those
Speaker 1: electronic options entities that we're speaking to, right, the very
Speaker 1: tech savvy kind of newer players in the scene, I'll say,
Speaker 1: and they buy and large are the net sellers, right,
Speaker 1: they are the sellers. They are the source of supply
Speaker 1: for the end users. In the final kind of category,
Speaker 1: because there is a broker dealer prop, which is I
Speaker 1: think an antiquity kind of term when you know prop
Speaker 1: desks were a thing, and it's it's no longer really
Speaker 1: particularly relevant. But the net end user is actually a
Speaker 1: customer tag. So that to us, you know, are the
Speaker 1: people who are you know, trading at home, you know clients,
Speaker 1: you know, institutional clients for retail, etc. What we do
Speaker 1: is we take a kind of a trade pressure monitor,
Speaker 1: and you can do this with a you know, a
Speaker 1: futures contract, but where you're looking at time and sales
Speaker 1: and what is transacting at that time versus the bitter offer.
Speaker 1: And what you then see is if something is kind
Speaker 1: of you know, generically, you know, assumption wise, if it's
Speaker 1: trading above the midpoint, right, doesn't even necessarily have to
Speaker 1: trade offer. But it's above the midpoint, that's somebody typically
Speaker 1: who's lifting an offer. That's a buyer, right, and vice
Speaker 1: verse right. If it trades below the mids, it's somebody
Speaker 1: hitting a bit, it's a seller. And what we do
Speaker 1: is we net out all the trades over the course
Speaker 1: of the day, and then we get that and we
Speaker 1: look at buys of calls, cells of calls right by puts,
Speaker 1: cells of puts, and what we end up seeing is
Speaker 1: a very clear pattern that market makers are almost always
Speaker 1: net sellers and customer flows are almost always net buyers.
Speaker 1: And that is core to this discussion right now because
Speaker 1: you know, as it relates to this larger topic of valmageddon,
Speaker 1: which we'll touch on a bit. You know, that's actually
Speaker 1: the setup that I am most comfortable with, where the
Speaker 1: seemingly you know, day trader, right the seeming kind of
Speaker 1: the buyer of this is more into creating a gamma
Speaker 1: a gamma flow in the market, of momentum flow in
Speaker 1: the market, and we can kind of unpack that, you
Speaker 1: know what that means. But but they have a defined
Speaker 1: risk they're spending the premium on the option. Most of
Speaker 1: these options are going to expire worthless as you kind
Speaker 1: of push out of out of the money. Wait, so
Speaker 1: before we get into sort of knocking the valmac eddon
Speaker 1: argument down, can you talk like what is the val
Speaker 1: mcgeddon argument? Can you piece it together for us? And
Speaker 1: then I know you don't necessarily agree with some of
Speaker 1: the more extreme interpretations of it. And I know, for instance,
Speaker 1: there was a JP Morgan note recently where they said
Speaker 1: that a five percent drop in the SMP five hundred
Speaker 1: could basically snowball into another twenty percent drop because of
Speaker 1: these options. Talk to us about the dynamics that would
Speaker 1: drive that cascade effect in theory. So in you know,
Speaker 1: to take it back to twenty eighteen and that valmcgeddon scenario,
Speaker 1: and you know, you guys kind of got the joke right.
Speaker 1: There was very steep skew at the time. Vall was
Speaker 1: you know, at times screening attractive as a cell because
Speaker 1: of this kind of fed macro suppression, right, and you
Speaker 1: had no yield and fixed income. So there was a
Speaker 1: lot of growth in val selling strategies and you know,
Speaker 1: yield enhancement strategies. And this isn't necessarily from you know
Speaker 1: vall Arb you know, um, you know hedge funds, you know,
Speaker 1: in dark, opaque corners of the market. This was you know,
Speaker 1: the largest asset managers in the world, you know, with
Speaker 1: overriding foot Bill gross stood up on stage and said
Speaker 1: sell volatility, right, that was That's how he did it.
Speaker 1: That's how he did it. He was you know, the
Speaker 1: biggest ray Volve guy out there, you know, and just
Speaker 1: constantly mushing that stuff. You know. So this is more
Speaker 1: than just an equities discussion. But so there was this
Speaker 1: build up, an accumulation of short volatility in the market
Speaker 1: and in particular with those products right their end of
Speaker 1: day hedging requirements. The larger that short vall trade got,
Speaker 1: which again, you know, everybody gets the joke it's a
Speaker 1: picking up pennies in front of a steamroller thing. You're
Speaker 1: just collecting premium, You're you know, collecting income, you know,
Speaker 1: FATA gang, all those kind of euphemisms. That one day,
Speaker 1: and it happened to be that there was an actual
Speaker 1: macro catalyst. Over the course of that December and January,
Speaker 1: the Trump tax plan went from kind of zero delta,
Speaker 1: meaning like nobody thought it was going to get done,
Speaker 1: to getting approved in like the House or the Senate
Speaker 1: by mid December, and we were already at above trend
Speaker 1: growth and above trend inflation, and all of a sudden,
Speaker 1: now you had this big fiscal boom out of nowhere.
Speaker 1: Over the course of January, equity equities was spot up,
Speaker 1: so the market was up, but VALL was going higher
Speaker 1: because people were buying upside optionality like crazy. So a
Speaker 1: spot up vall up, which is you know, a kind
Speaker 1: of a known term for an unstable market, I guess
Speaker 1: you would say. And over the course of that month,
Speaker 1: we kept seeing you know, prices paid beats, you know,
Speaker 1: from regional Feds. There was a CPI release and at
Speaker 1: the day, the Friday prior to you know, Val mcgeddon,
Speaker 1: you know, February fifth, I believe we had this average
Speaker 1: early earnings print. I believe it was like a three
Speaker 1: standard deviation beat or something like that. And for the
Speaker 1: first time in that QY era, there was a Holy
Speaker 1: smokesall there was a Holy Smokes moment, and there was
Speaker 1: an inflation scare, and all of a sudden, that seemingly
Speaker 1: very controlled forward path invisibility of the Fed keeping rates
Speaker 1: lower forever was no longer a thing, and that morning,
Speaker 1: you know, so THATSP traded down two and a half percent.
Speaker 1: I think that Friday, that morning, we saw these things
Speaker 1: start to come unglued, and a lot of people were
Speaker 1: short these things right, and they had to turn by
Speaker 1: the end of the day. Well, the craziest thing is
Speaker 1: they were tied to VIX futures, and I think the
Speaker 1: week before you could see the VIX curve start to invert,
Speaker 1: and everyone knew what inversion would mean for these products.
Speaker 1: And I remember, I will never stop bringing this up,
Speaker 1: but I remember tweeting about how VIX curve inversion would
Speaker 1: be really bad for you know, these two etns, and
Speaker 1: then it happened and everyone was shocked. They were like, oh,
Speaker 1: I didn't expect it, or at least you know, a
Speaker 1: significant proportion of retail seemed to be shocked, which was unfortunate.
Speaker 1: But you could see it coming right right. I mean
Speaker 1: I called it a for you know, I think that
Speaker 1: at that time, like it was a neon swan. Yeah,
Speaker 1: we knew that you need needed a catalyst, and it
Speaker 1: was probably as always as we've seen with this most
Speaker 1: recent you know, multi year period as of you know,
Speaker 1: the volatility catalyst was inflation, because it shocks you out
Speaker 1: in this kind of lazy, you know, que mentality, zero
Speaker 1: bound rate mentality. Moving back to the present day, you know,
Speaker 1: what is it? So, as you pointed out, there's good
Speaker 1: reason to believe this is heavy institution, institutional or active
Speaker 1: buyers of these UM zero data expert options, and clearly
Speaker 1: there's a lot of demand there. The demand is real
Speaker 1: for it. What is it? I guess what are they
Speaker 1: used for? And by that I mean specifically, what is
Speaker 1: it about the characteristics of current large scale institutional portfolios
Speaker 1: that this sort of like standard length longer I don't know,
Speaker 1: duratial maturity option, I don't know what term, just whatever,
Speaker 1: longer data expery options are not as good for why
Speaker 1: do they need such short term protection? Well, so I
Speaker 1: think what you want to do is you look, you know,
Speaker 1: I spoke earlier about kind of the shifting vall regime
Speaker 1: and a Q E versus K TIERA right, and then
Speaker 1: last year skew flattened to like zero percentile. Right, So
Speaker 1: that what that tells you? Right? And we said it
Speaker 1: was because you know, largely generally speaking, without going into
Speaker 1: some really technical kind of flows in the structure product space,
Speaker 1: there was this general underposition that didn't require hedges. It
Speaker 1: was a crash less sell off. It was a grinding
Speaker 1: d leverage. Yeah, but why did they need the zero
Speaker 1: Like why why do they need such short term activities
Speaker 1: to get to get that same at the level of
Speaker 1: protection to say, so that so that's the perversion here
Speaker 1: is that if you were you know, so many tail
Speaker 1: funds stunt class year because typically tail funds are owning
Speaker 1: you know, you're you're you're kind of you're you're. We
Speaker 1: like to say you're short the meat and you're long
Speaker 1: the heat, you know, like that's a kind of a
Speaker 1: generally you know, assumption of what works you need to
Speaker 1: finance paying for you know, the hedges that you put
Speaker 1: on by you know, being able to be shorts and
Speaker 1: volatility at the time, stuff that's gonna you know you're
Speaker 1: gonna be able to collect on. And then you want
Speaker 1: to own like crashy stuff. Well because we never crashed. Yeah,
Speaker 1: like you know, owning Gamma into these event risks didn't
Speaker 1: pay out, so and owning puts didn't really pay out
Speaker 1: because it was this grinding, spot down vall down environment.
Speaker 1: Skew was flat. The actual only days we really saw
Speaker 1: Vault perform were on crash ups because nobody had it
Speaker 1: on right. Nobody was worried about a further sell off
Speaker 1: because you had such low exposure. You're high cash, as
Speaker 1: we already said, you know, like if anything, you were
Speaker 1: hedging daily event risk, and that was a big thing.
Speaker 1: So much of the event risk last year was a
Speaker 1: CPI print, was an NFP, was an FOMC meeting, was
Speaker 1: an ECB meeting. So you wanted something that really looked
Speaker 1: alike and was going to be highly sensitive to that
Speaker 1: day's move right if you were a header. So people
Speaker 1: were buying like at the money same day puts, a
Speaker 1: one month put or a quarterly put was not doing
Speaker 1: you any good. And owning like put spreads for some
Speaker 1: gamma or whatever, it was not doing you any good.
Speaker 1: So as the kind of the migration of the flow
Speaker 1: moved to these, to these, you know, each day to
Speaker 1: that point early each day became its own ecosystem. And
Speaker 1: if you are hedging those risks, if you are a
Speaker 1: market maker selling into a kind of end user who
Speaker 1: has demand to kind of push the market around either way,
Speaker 1: whether it's buying puts or buying calls, which we were
Speaker 1: seeing this, you know the customer base do currently there
Speaker 1: they should be agnostic really about the direction of the market.
Speaker 1: To be fair, right, what they were doing are buying this.
Speaker 1: If you're if you're now short this stuff, you want
Speaker 1: something that's going to perform just like those, and owning
Speaker 1: a Friday option, a weekly option, or a monthly option
Speaker 1: is not going to have the same umph kind of
Speaker 1: inhedging your risk. So part of the volume proliferation that
Speaker 1: we have seen this year is the market makers and
Speaker 1: broker dealers themselves using these products to slice and disk
Speaker 1: their own risk profile. Yeah right, it's symbiotic with the
Speaker 1: kind of the underlying demand. So just on this note,
Speaker 1: we have this environment where maybe you're worried about a
Speaker 1: big intra day move because of event risk, and so
Speaker 1: you're going to buy a short dated option or a
Speaker 1: zero or one day option versus a weekly or a
Speaker 1: monthly or something like that. What does that actually mean
Speaker 1: for the impact on the market, Because the whole Volmageddon
Speaker 1: portfolio insurance doom loop theory is that you end up
Speaker 1: in a situation where the whole market is basically short gamma,
Speaker 1: and what if it keeps to cli lining and then
Speaker 1: market makers have to keep selling in order to hedge.
Speaker 1: But I'm assuming if you're talking about these ultra short options,
Speaker 1: I mean, maybe it could make the market volatile on
Speaker 1: more volatile on a one day basis, but probably less
Speaker 1: unless you get sustained selling for several days. Probably not
Speaker 1: going to lead to, you know, a nineteen eighty seven
Speaker 1: type situation, right, So you know, I think you know,
Speaker 1: in one of my you know, quasi recent notes, there
Speaker 1: was a span you know, at some point in February
Speaker 1: I'd say like over ten days, seven days, I want
Speaker 1: to say seven days. I think we had fifteen or
Speaker 1: sixteen one percent moves in both directions, and like a
Speaker 1: week and a half, I mean it really was. I
Speaker 1: want to say it was like the first week and
Speaker 1: a half save like February, Okay, when when you know
Speaker 1: the velocity of mentions of this, you know, this became
Speaker 1: a very trending conversation. Yeah, and you at that point too,
Speaker 1: we were printing, you know, basically the high usage points
Speaker 1: of these options to date. You know, one out of
Speaker 1: every two options was a zero DT option. And what
Speaker 1: you were seeing then was kind of that exact point
Speaker 1: that you're bringing up, Tracy. It was like you're getting
Speaker 1: this enhanced intra day volatility because when these options were
Speaker 1: net bought by the customers, the dealers have to go
Speaker 1: on had that gamma, right, So when and what that
Speaker 1: means is that you know, if I'm selling upside, if
Speaker 1: I'm selling upside to you, you're trying to induce a
Speaker 1: move in the market. You're trying to kind of push
Speaker 1: the market with this accelerant flow. That's the lesson that
Speaker 1: we learned with the Wall Street Bets yellowing phenomenon. Right,
Speaker 1: And you know this it came part and parcel with
Speaker 1: the democratization of financial information, right, the democratization of trading
Speaker 1: and making it like a video game. This was that
Speaker 1: highly convex you know, low risk while you're doing is
Speaker 1: spending your premium that lottery ticket phenomenon. Yeah, and this
Speaker 1: has become a powerful flow and people now get the
Speaker 1: joke from retail to former institutional folks that didn't think
Speaker 1: about options as a vehicle. Joe, you might remember I
Speaker 1: wrote about this in the news letter. But this to
Speaker 1: me is like the legacy of crypt Well, crypto is
Speaker 1: still here, but this is the big invalence of crypto
Speaker 1: to me, which is that people bet on ever shorter
Speaker 1: term events and they're kind of agnostic to price. Right,
Speaker 1: it's like does the market go this way or does
Speaker 1: it go that way? Actually, this leads perfectly my next question.
Speaker 1: It was like, how big is that activity today in
Speaker 1: early twenty twenty three in your view relative to where
Speaker 1: it was and say middle of twenty twenty one, because
Speaker 1: obviously a lot of those people must be gone or
Speaker 1: wiped out or something, but it's clearly I mean there's
Speaker 1: like this cultural thing and there's a lot of people
Speaker 1: still doing it and talking about it, etc. So like
Speaker 1: in your sense, like the sort of Yolo Gama squeeze
Speaker 1: trades that we talked about We've had on the show
Speaker 1: multiple times, like how much of a force is that today? First,
Speaker 1: back then. So this is kind of the way I
Speaker 1: think about it. It's a very it's a very option
Speaker 1: centric phenomenon, right, And I'm not just saying, oh, like
Speaker 1: zero DT options like shocking. What I'm saying is that
Speaker 1: in the absence of a clear kind of macro message,
Speaker 1: and you were seeing that with Jerome Powell and the
Speaker 1: Fed and the market really trying to come to terms,
Speaker 1: you know, by getting ahead of itself and anticipating the
Speaker 1: end of the tightening cycle and trying to begin pricing
Speaker 1: that in and then bang, you know, hot inflation data
Speaker 1: or hot jobs data keeps you know, the Fed having
Speaker 1: to readjust and the market reprices terminal rates and all
Speaker 1: that stuff. When the trade becomes very challenging like that,
Speaker 1: where again on a daily to weekly basis, where you
Speaker 1: know we're completely held hostage by an individual new macro
Speaker 1: data point or a new central bank meeting, I think
Speaker 1: there has almost been I don't want to say a
Speaker 1: trade or boredom, but you need to exploit some other
Speaker 1: phenomenon where you're dealing with kind of binary outcomes and
Speaker 1: what ends up happening. What we've seen is that if
Speaker 1: you are a market maker or you know, to a
Speaker 1: lesser extent, as I said, a dealer, and you have
Speaker 1: clients looking to exploit these intra day moves, which by
Speaker 1: the way, there's also you know, kind of a regulatory
Speaker 1: paper trail aside here as well, because you know, if
Speaker 1: I'm you know, selling, if I'm selling an option, let's say, okay,
Speaker 1: I don't at the end of the day, if it's
Speaker 1: not on my prime broker's books because that trade has gone,
Speaker 1: I don't have to you know, do the kind of
Speaker 1: the the margin you know requirement right the collateral um
Speaker 1: you know kind of requirement. So you know, there's there's
Speaker 1: also this at as opposed to using a futures order, which,
Speaker 1: by the way, you would put a you know, like
Speaker 1: for a stop loss or risk management tool. So often
Speaker 1: in this type of world, you put your stop loss
Speaker 1: out here down at this level, and you know, the
Speaker 1: market goes there and you execute and you're out of
Speaker 1: your position even though you want it to be long
Speaker 1: And then by the end of the day, the thing
Speaker 1: is higher and you just killed yourself. These sit out
Speaker 1: there live until four o'clock. They give you a chance
Speaker 1: to not get knocked out. Oh and I didn't realize
Speaker 1: that about the margin requirements. That's interesting, Yeah, I mean
Speaker 1: so it's just you know, those types of things are
Speaker 1: all part of this tailwind to these to these products.
Speaker 1: But the thing that I want to say, as if
Speaker 1: you think about where a market maker is basically positioned,
Speaker 1: they're kind of they're short of put and short of
Speaker 1: call on a daily basis. Our data shows for that
Speaker 1: customer tagging that almost every day by and large particularly
Speaker 1: and we look at you know, moneyness buckets, right, So
Speaker 1: and that sounds kind of intimidating perhaps, but just think
Speaker 1: about like calls in the up one percent to up
Speaker 1: three percent, right, is almost always a net customer buyer
Speaker 1: trying to create that gamma squeeze, okay, But so are
Speaker 1: puts in the ninety seven ninety nine. So like down one,
Speaker 1: down three percent, almost always a customer buyer you're trying
Speaker 1: to push these flows around. So just on this point,
Speaker 1: and you mentioned exploitation earlier, and one of the things
Speaker 1: about Vaal mcgeddon and those two exchange traded notes or products,
Speaker 1: was that eventually market participants became very very aware of
Speaker 1: their size and how they worked and sort of realized
Speaker 1: that they could influence those products so that the products
Speaker 1: in turn would influence the underlying which in this case
Speaker 1: was Vic's futures. Is there a chance that you could
Speaker 1: see something or you're already seeing something similar here where
Speaker 1: sophisticated market participants understand how these options work, the hedging
Speaker 1: activity that they generate, and they start to sort of
Speaker 1: game them. Yes, but what you're doing is you're kind
Speaker 1: of intraday gaming them because again the inherent mean reversion
Speaker 1: property of these things. If you're going to monetize, you
Speaker 1: got to do it by the clothes and what you're
Speaker 1: getting this is feeding into the intraday volatility expansion, right,
Speaker 1: the interday acceleration flow. I'm lifting a guy on upside calls,
Speaker 1: you know, and out of the money upside calls, and
Speaker 1: the market starts rallying, and then we get through a strike.
Speaker 1: He's short gamma, right, So the higher the market goes,
Speaker 1: the more they have to buy to stay hedged. You're
Speaker 1: trying to help push, You're trying to get the ball rolling. Again,
Speaker 1: These are acceler and flows the same thing to the downside,
Speaker 1: and that is that is, you know, well within the
Speaker 1: kind of the bounds of fair play, right, it's the
Speaker 1: same thing as you have to go out and buy
Speaker 1: five yards of futures. You know you're gonna rip the market.
Speaker 1: It's going to leave a footprint. You know, you might
Speaker 1: be trying to do it kind of little profile, but
Speaker 1: you know these trades. We've seen futures on options on
Speaker 1: futures trading of late where people are doing this clearly
Speaker 1: on the screens where they're buying twenty thousand options on
Speaker 1: futures down fifty points in the middle of the day
Speaker 1: and puts. And that was a big story a week
Speaker 1: or two ago where the market moved because there was
Speaker 1: two billion dollars of delta for sale. Everybody saw that.
Speaker 1: Everybody knew it. Actually, maybe just as a way to
Speaker 1: sort of help me conceptualize this and understand the example
Speaker 1: that you just cited, like can you talk a little
Speaker 1: bit about payoff probabilities, Like can you sort of walk
Speaker 1: through a sort of a specific like type of bet
Speaker 1: that someone would make and this type of situation, like
Speaker 1: what are they risking? What is the upside? Everyone wants
Speaker 1: that's sort of like big lottery tickets type move et cetera.
Speaker 1: Can you sort of like walk through like a sort
Speaker 1: of theoretical trade or theoretical like math behind how an
Speaker 1: entity would enter and think about the upside and downside. Well,
Speaker 1: I mean without even getting into like a complex option strategy.
Speaker 1: Right if you were just simply buying same day call options, Okay,
Speaker 1: you know kind of through the end of January, You'm
Speaker 1: just running a systematic strategy of you know, of buying
Speaker 1: and closing like you're up you know, say, you know,
Speaker 1: five percent just on you know that alone consistently, and
Speaker 1: you had you know, an actual like positive sharp ratio too.
Speaker 1: Like that's not a normal kind of environment because January
Speaker 1: was this like everything type of rally even though you know,
Speaker 1: there were times where we were rallying involved was going higher.
Speaker 1: But it's more actually the view of why, in my mind,
Speaker 1: why market makers want to be are willing to be
Speaker 1: short these right, and that is you know, a critical
Speaker 1: part of this process, particularly in this VALL regime where
Speaker 1: you know, VALL can't squeeze yesterday, you know, barely barely
Speaker 1: ticking higher, right even or excuse me, on yesterday, meaning
Speaker 1: referring to the first day of the politicistimony on the sea.
Speaker 1: But if you're looking at you know, a sharp ratio, right,
Speaker 1: so a measure of kind of performance versus a risk unit.
Speaker 1: You know, it's really a marketing tool, right, you know,
Speaker 1: it's not an actual like risk calculate, but shorting a
Speaker 1: daily straddle, which is what these market makers are doing. Right.
Speaker 1: They're short of put and short of call to a client,
Speaker 1: or you could say short of a strangle as well,
Speaker 1: kind of depending on same strike or wider strikes. But
Speaker 1: you're talking about an S and P for the last
Speaker 1: ten days, that's a seven sharp selling that selling that
Speaker 1: straddle systematically on a on a twenty day, you know,
Speaker 1: it pushes up somewhere, you know, or it's still like
Speaker 1: a five or something like that in an S and P.
Speaker 1: So these this is a big pay out for these
Speaker 1: market makes. So okay, So what is the regime shift
Speaker 1: scenario in which market makers could get run over? There's
Speaker 1: short puts and calls, so they're essentially making bets on
Speaker 1: not big moves, right, Like to a certain extent, Yes,
Speaker 1: in a world where we haven't had crash and there
Speaker 1: is not so right, we've had declined but not crashes.
Speaker 1: And part of that is perhaps you know, due to
Speaker 1: these sort of like delevering people don't have people have
Speaker 1: more cash on this sideline so they don't have to
Speaker 1: like sell in response to selling, etc. But talked like
Speaker 1: about like what is the scenario in which a market
Speaker 1: maker with these you know, short straddles could get run over? Well,
Speaker 1: so in this dynamic that we're that we're talking about,
Speaker 1: that that has kind of been the setup for most days, right,
Speaker 1: you know where you know it's it's actually a good thing.
Speaker 1: I want the short ball short gamma being managed by professionals,
Speaker 1: some sort of regulatory oversight, capital you know oversight you know,
Speaker 1: with more robust discipline kind of risk management process and
Speaker 1: not by the same day intra day scalpers who are
Speaker 1: shorting tales for income. Yes, right, that's that's critical to me.
Speaker 1: So when I'm speaking with regulators, which i am, you know,
Speaker 1: when I'm speaking with um you know kind of oversight
Speaker 1: type of entities and and you know things of that
Speaker 1: nature that want to know is there a systemic risk? Yeah,
Speaker 1: this currently is the right set up to be you know,
Speaker 1: well managed. The thing that would make me uncomfortable would
Speaker 1: very much come from what would almost require certainly a
Speaker 1: different macroeconomic regime, which would be a much more highly
Speaker 1: speculative environment. It would probably require, you know, a resumption
Speaker 1: of quantitative easing. It would be a very different world
Speaker 1: where there wouldn't be all this yield and sitting in
Speaker 1: cash and you had to go back to being risky
Speaker 1: by selling valls. Sorry, I don't want to keep pressing
Speaker 1: on this, but I'm trying to understand, like, yeah, they're
Speaker 1: really smart and their professionals, but smart professionals blow up
Speaker 1: to wait, wait, wait, wait. So just on this point,
Speaker 1: I think like the biggest criticism of the val mcgeddon
Speaker 1: scenario is that if your put went up like a
Speaker 1: thousand percent in a day, you would sell it, right,
Speaker 1: which would like start to decrease some of the hedging
Speaker 1: needs or bring in buyers buying from market makers, and
Speaker 1: that would ultimately support the market. That's my understanding of
Speaker 1: the sort of opposition to val mcgeddon thing. I think
Speaker 1: the sheer supply of short vall then versus this very
Speaker 1: tactical and then daisy chained hedged you know environment that
Speaker 1: we're currently in where part of these volumes once the
Speaker 1: dealers are short some of these you know, down to
Speaker 1: or up to types of scenarios are them Are they
Speaker 1: themselves hedging out these scenarios and slicing and dicing their risk.
Speaker 1: Back then, that was the largest supply of kind of
Speaker 1: short vall that we had seen, and we knew mechanically
Speaker 1: it had to rebalance. That's why it was an extinction event.
Speaker 1: People begin to shoot against it now that of course,
Speaker 1: that can still happen now, but again due to this
Speaker 1: dynamic where if the trade is actually going your way,
Speaker 1: you are being incentivized to close it out. And that's why.
Speaker 1: So if classic realized volatility is a measure of close
Speaker 1: to close volatility right right now kind of sort of
Speaker 1: say VIX the VIX future at like around twenty is
Speaker 1: implying a one point two to one point three percent
Speaker 1: daily move in the SMP like five of the last
Speaker 1: seven days. I know it's a random sampling, but have
Speaker 1: been like fifty bibs or less. But what you're getting
Speaker 1: is one percent intra day moves. And this is the thing,
Speaker 1: right what you're getting is like from from a you know,
Speaker 1: a volatility measure that actually incorporates open to close or
Speaker 1: hide to low. You're actually seeing vall expand at some times,
Speaker 1: but from a classic volatility perspective, because this mean reversion
Speaker 1: flow compresses from a daily change, right that idea of
Speaker 1: an ecosystem of each day its own ecosystem on a
Speaker 1: closed to close basis, these trades are actually helping to
Speaker 1: compress volatility and actually leaning into implied you know, volatility
Speaker 1: is kind of grinding lower, which is very much where
Speaker 1: we're stuck right now. So I just have one more question,
Speaker 1: and it's kind of facetious but not really like the
Speaker 1: day to day takeaway from this is that like the
Speaker 1: CBOE and the marketmakers must just be minting money from this.
Speaker 1: And secondly, doesn't mean that if you're an equities trader,
Speaker 1: like you don't even have to be around for the
Speaker 1: full day. You could just be at like around present
Speaker 1: for the open and the clothes and those are the
Speaker 1: most important things. Now. Well, so we watch, you know,
Speaker 1: there's a ton of mythology and wheel spinning based on
Speaker 1: you know, in recent years, and I've been you know,
Speaker 1: part of this process for certain with regards to getting
Speaker 1: a sense for the aggregate options landscape and where extreme
Speaker 1: long or short are the aggregate delta is across options
Speaker 1: and where dealers go short gamma, you know, versus spot
Speaker 1: and things like that, trying to find these acceleration points
Speaker 1: in the market where things could go wrong or things
Speaker 1: could get slippery in either direction. What the proliferation of
Speaker 1: these tools is done. As we said, each day has
Speaker 1: its own kind of environment, and when we're looking at
Speaker 1: these things trading, these don't necessarily mean that it has
Speaker 1: to be an open and closed So as we've moved
Speaker 1: away from looking at the longer term impact of kind
Speaker 1: of the longer expiration options, and now it's so intra
Speaker 1: day based. We have a lot of tools internally where
Speaker 1: I am seeing whether or not premium is being spent
Speaker 1: or premium is being sold. And that's meaning so if
Speaker 1: I see delta going higher and I see premium going
Speaker 1: up in a positive direction, on these tools, I can
Speaker 1: assume that calls are being bought right spending premium, and
Speaker 1: thus the delta is going higher on a day like
Speaker 1: this recent Jerome Powell, you know, hawkish kind of escalation yesterday,
Speaker 1: what we saw, he comes out of the gates. There's
Speaker 1: a ton of puts bought, and then you get the
Speaker 1: down move. And this is a big theme in twenty
Speaker 1: twenty two as well, with a number of the big
Speaker 1: CPI upside surprises seemingly hawkish data points. People would monetize
Speaker 1: that downside. It would immediately put in a floor in
Speaker 1: the market, right because now you sell those puts, you
Speaker 1: sell those hedges or directional puts. It creates an impetus
Speaker 1: now for dealers to cover their short futures. And then
Speaker 1: people would even further exploit that by buying same day
Speaker 1: calls to kind of create a further squeeze of that impact.
Speaker 1: So all day it was by puts, sell puts, by
Speaker 1: calls rally, and then we got that, we snapped, and
Speaker 1: we sold off again. It is a you can do
Speaker 1: as much as you want, right and you're not held
Speaker 1: to close. You know, you can close them out midday
Speaker 1: if you got your two hundred percent return and a
Speaker 1: far out of the money thing that went in the money,
Speaker 1: And that's happened on multiple occasions intraday, you know you're good.
Speaker 1: But the overall point is absolutely not every day are
Speaker 1: we closing back to flat? You know, I'm not trying
Speaker 1: to say that. With regards of this mean reversion dynamic,
Speaker 1: we have had a number of days, certainly after the
Speaker 1: rates repricing and some of the volatility in February, the
Speaker 1: policy of volatility in February and the rate volatility in February,
Speaker 1: where we actually did look kind of short gamma, meaning
Speaker 1: we either closed on the low or closed on a
Speaker 1: high at the end of the day. You know, when
Speaker 1: I say we looked short gamma, it speaks to that
Speaker 1: dynamic where market makers or dealers are needing to buy
Speaker 1: something the higher it goes, or sell something the lower
Speaker 1: it goes, particularly at that end of day hedging period.
Speaker 1: Now you're getting this intra day hedging period and intra
Speaker 1: day unwind period. So buy and large again with the
Speaker 1: customers being the buyers and the kind of the the
Speaker 1: dealers and the market makers being the managers of the
Speaker 1: options greeks, risks and the second order greeks, that is
Speaker 1: a far safer place to be in my eyes. It's
Speaker 1: when we see that resumption of selling tales intra day
Speaker 1: that my spidy senses will go up and say, I
Speaker 1: don't like how this could go. Then you very well
Speaker 1: could have a situation where they don't know how to
Speaker 1: manage their their you know, their gamma risk, right that
Speaker 1: with the sensitivity of their delta to a move in
Speaker 1: the underlying the sensitivity of their delta to a move,
Speaker 1: and involve their Vanna risk. Right, all those things. These
Speaker 1: things have a shelf life of six and a half
Speaker 1: hours best. They're super sensitive. That's the reason that they're attractive,
Speaker 1: because they're you know, lottery tickets on steroids. And again
Speaker 1: with a defined risk, you can spend eighty bucks to
Speaker 1: make eleven thousand or whatever it is I want to
Speaker 1: do that. You know, that's the kind of setup. You've
Speaker 1: learned nothing from this podcast. Spidey Sense for a spy
Speaker 1: impact is also very good, Charlie. We're going to have
Speaker 1: to leave it there. Thank you so much. That was
Speaker 1: a fantastic explanation. Really appreciate you coming on. Thank you
Speaker 1: guys for having me so Joe. I found that conversation fascinating,
Speaker 1: and I think whenever you do have an explosion in
Speaker 1: volume of a new type of product, it does warrant
Speaker 1: some caution and additional scrutiny. But for me, the big
Speaker 1: takeaway there was this idea of every day is kind
Speaker 1: of a new ecosystem. In this idea that more and
Speaker 1: more people and I thought Charlie did an excellent job
Speaker 1: of sort of crystallizing a lot of these ideas, This
Speaker 1: idea that if you don't have a defined macro environment
Speaker 1: or macro trend, then why not trade on a sort
Speaker 1: of day to day basis on things going up or down?
Speaker 1: There was a Yeah, I found that conversation to be
Speaker 1: very clarifying. The big picture, like sort of aha moment
Speaker 1: for me is that you know when portfolios are less
Speaker 1: levered because the FED is sort of telling you to,
Speaker 1: you know, use less leverage. They're raising the cost of borrowing, etc. Like,
Speaker 1: you don't need as much long term structural protection because
Speaker 1: you have a volatility hedge already, which is the amount
Speaker 1: of cash that you're holding, But you know, you still
Speaker 1: have these one day moves, so you have the less
Speaker 1: big macro crash risk, but you still have these one
Speaker 1: day moves around CPI releases or around FED speeches, and
Speaker 1: so yeah, intuitively, you think, okay, short term options, this
Speaker 1: must be all just people who like to gamble betting
Speaker 1: that eighty dollars for eleven thousand payoff. But if the
Speaker 1: story is really about one day moves and one day risk,
Speaker 1: then you can see why institutional portfolios would like to
Speaker 1: trade these instruments. Yeah, well, I think there's definitely a
Speaker 1: rationality behind it, especially on the institutional side. But I
Speaker 1: also think we can't ignore that just over the past
Speaker 1: few years, you know, with the advent of crypto and
Speaker 1: then the Wall Street bets phenomenon and all of that
Speaker 1: is we've kind of normalized the tokenization of everything, or
Speaker 1: the lottery ticket idea, and you know, I can just
Speaker 1: treat this as sure, go up or down and make
Speaker 1: a lot of money. No, I mean, like that's obviously
Speaker 1: like such a thing. I mean, it's like such a
Speaker 1: part of the culture, the gambling culture, the sort of
Speaker 1: like take risks, the sort of like shoot for the moon,
Speaker 1: like that is like a real thing that I don't
Speaker 1: think we've felt to nearly the same degree five years
Speaker 1: ago or whatever it was, you know, even Val mcgednon.
Speaker 1: All that stuff feels like sort of like a quaint
Speaker 1: era and now within how people treat markets. But yeah, no,
Speaker 1: I think that was fascinating. And then also I do
Speaker 1: think Charlie's explanation of like the sort of natural mean
Speaker 1: version of the people who participated in the markets was
Speaker 1: helpful and again sort of like reasons to think that
Speaker 1: even with a lot of speculative activity, that the nature
Speaker 1: of them is more towards curbing large moves rather than
Speaker 1: accelerating a large move. Well, it's kind of like the
Speaker 1: bad news is short. You know, one or zero day
Speaker 1: options might add to intra day volatility, but the good
Speaker 1: news is it's intra day volatility. Yeah, it's only a day. Well,
Speaker 1: that was so fascinating, Like the idea that's like, Okay,
Speaker 1: something bad happened, so like everyone started to buy and
Speaker 1: puts that pushes it down. People immediately want to start
Speaker 1: monetizing their profits on that. I was like, oh, let's
Speaker 1: do the call squeeze and now, because we know that
Speaker 1: everyone's going to be monetizing. So you do sort of
Speaker 1: get that sort of like it's volatile, but it's sort
Speaker 1: of also dampening at the same time. It sounds like exactly,
Speaker 1: shall we leave it there? Let's leave it there. This
Speaker 1: has been another episode of the All Thoughts podcast. I'm
Speaker 1: Tracy Alloway. You can follow me on Twitter at Tracy
Speaker 1: Alloway and I'm Joe Why Isn't All? You can follow
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