Quiver Quantitative - The S&P 500 (SPY) experienced its most significant slide in three months, with many in the trading community pointing fingers at zero-day options (0DTE options) as the primary catalyst. These options, which expire within 24 hours, have become a focal point for debate in the derivatives market. On a day marked by overbought conditions and lighter trading due to the holiday season, the high volume of these short-lived put options was seen as a significant factor in the market pullback.
Cantor Fitzgerald's Matthew Tym and Paolo Zanello highlighted the potential impact of 0DTE options on the market's downturn. They pointed to substantial trades in put options around the 4,755-4,765-strike price area. Bloomberg data revealed these puts had a notional value in the billions, contributing to one of the highest put volumes on the S&P 500 for the year. The S&P Index, which had been showing signs of being overbought, dropped from an intraday high of 4,778.01 to close at 4,698.35, a 1.5% decrease. This decline coincided with a rise in the VIX, Wall Street’s volatility measure, from near multi-year lows.
Market Overview: -Wall Street's rally ended abruptly with the S&P 500 tumbling 1.5%, its worst decline in three months. -Traders cast blame on "zero-day options," short-term bets expiring within 24 hours, for igniting the selloff. -Overbought conditions and light holiday trading amplified the selling pressure triggered by the puts.
Key Points: -Heavy volume in put options expiring on December 21, concentrated around the 4,765 strike price, is suspected to have sparked the downward spiral. -This aligns with concerns expressed by strategists about overstretched valuations and growing potential for a correction. -The rapid decline raises questions about the impact of such short-term derivatives on market stability and potential for negative feedback loops.
Looking Ahead: -Further downside likely as investors react to the sell-off and potentially buy even more zero-day put options, prompting further selling by market makers. -Close monitoring of option activity and overall market sentiment during thin holiday trading is crucial. -The episode reignites the debate on the role of zero-day options and their potential risks to market stability.
Market strategists had been signaling the possibility of a market pullback after a sustained rally since late October. Lori Calvasina of RBC Capital Market (RBC), among others, had indicated that the market was ripe for a correction. Kelvin Wong from Oanda noted that the combination of 0DTE puts, overbought conditions, and a thin trading environment likely contributed to the bearish reversal seen across U.S. stock indexes.
The phenomenon of 0DTE options has been a subject of intense debate. For institutional investors, these options serve as tools for hedging short-term risks and quickly adjusting positions. Retail investors find them appealing for making large, leveraged bets with minimal investment. While experts like Marko Kolanovic from JPMorgan (JPM) have warned about potential market disruptions reminiscent of past events like the 2018 Volmageddon, others argue that the impact of these derivatives on the underlying market might be overstated.
This article was originally published on Quiver Quantitative