SPYvsGME

What happens when an unstoppable force meets an immovable object

SPYvsGME Updated   
TVC:VIX   Volatility S&P 500 Index
Stock Markets get wrecked…

In this analogy, JHEQX is the unstoppable force and Vix is the immovable object.

This idea is in response to a question a reader asked me, what exactly are JHEQX Flows. Where do they come from? What do they Mean?

I will describe it as one of my mentors does, Cem Karsan.

Everyone is long the stock market. If you enjoy life, driving cars, buying a home, eating out you are long the markets.

It’s why stonks go up.

But they do occasionally need to be corrected.

Sometimes more than others.

So some wicked smhart (read in a Boston accent) people came up with the idea for insurance on equities.

Derivatives were born and have continued to grow now to the point where Derivatives of equities are the market, not the other way around.

Otherwise known as Options, these insurance contracts are often bought to protect underlying assets to lower risk and guarantee a steady return on investment.

The same thing that made Bernie Madoff a prisoner


To do these, hedge funds need to buy the insurance product from a Market Maker (or Dealer).

In 2008, that was companies like AIG who the government bailed out in a 15 years of monetary policy .

The point is, the dealers who sell these insurance contracts need to be insulated from the risk of selling these products or end up like AIG .

So the dealers hedge. As to not fall behind the curve on a downturn or rally, the dealer hedging is dynamically done.

Dealers dynamically hedge their positions by buying and selling the underlying equities in the S&P 500 like APPL and TSLA .

It’s why you see such violent buying and selling after news is released. These dealers need to constantly hedge.

But what about regularly during normal trading hours and no news.

To answer that, you need to understand there is more than price to the stock markets.

With derivatives as the main driving factor in markets today, Time and Volatility play a major role in what the markets should be priced at any given time.

There are affectionately coined VANNA and CHARM.

VANNA is the change in delta of options in relation to Volatility .
CHARM is the change in delta of options in relation to Time.

In Summary

As Volatility goes up/down Vanna Flows become stronger/weaker.
As Time passes, CHARM flows get stronger until expiry.

Flows meaning the buying and selling of delta (underlying S&P 500 equities) done by Dealers.

Remember, dealers are always dynamically hedging deltas to remain risk neutral (or end up like AIG )

Does that mean I can dodge bullets?

No, What I’m saying is, when the time comes, you won’t have to.


———


Back to this idea.

I mapped out the past 3 quarters of JHEQX and when it goes positive or negative gamma.

You can clearly see a trend forming. I noticed it when VIX would not exceed 27.50 over the past few weeks (yellow triangles)

Now I have a good looking trend of where the 2 forces will meet again and possible be “the crash” everyone is expecting.

The FEDs policy stance has indicated increasing tougher times ahead. More hikes for longer until inflation is under control.

This means VIX will continue to go up.

It will also help us determine where JHEQX will roll over.

The tricky part of the rollover will be that the gamma position is reset.

That’s why you see the fund rarely flip except during its weakest flows after a reset.

The rest puts positive and negative gamma smack dab in the middle of the price were the hedge is priced in that day.

To see this, check this idea out and take note of where the product rolls over and where the yellow line that separates negative and positive gamma are.


Now you see, it’s not so easy to flip this force negative or positive.

Because it’s currently positive gamma, it provides the supportive flows like you have been seeing in markets the past few week.

I suspect it will continue to provide support until 1 of 2 things happens:

1. Selling pressure is to much and drops the markets down to 3700. The CHARM effects are going to be the strongest in 9 days.
2. Rollover occurs at the end of the month and the markets drop.

But what about the amount of gamma that rolled off on Fridays quad witching?

A lot of gamma rolled off the markets on Friday leaving supportive flows like JHEQX to carry the markets through the next rate hike later this week and to the end of the month when the product resets.

Please heed my warning.

These flows are not a guarantee. In either direction.

If an event happens, i.e. Russia backing out of the war, or China starting their own over Taiwan there is a catalyst for a large move event up or down.

I don’t recommend trading off any of my views.

Eventually the house always wins.

Trade safe. Trade wicked Smhart.
Comment: Update on VANNA.

I wrote: "As Volatility goes up/down Vanna Flows become stronger/weaker."

But for VANNA flows it's the other way around.

Higher IV = higher option prices and the delta curve of the products dealers sold become flatter as volatility goes up.

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