Wall Street is fueling explosive volatility in stocks by ‘YOLO-ing’ on expiring options

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Reddit-loving day traders are reportedly returning to their day jobs, according to the Wall Street Journal, but back in the world of high finance, professional traders have embraced one of its signature trading strategies, according to a trading guru. the markets followed closely.

An explosion in trading volume in options with one, or even zero, days left before they expire is helping fuel the intraday big swings in major US stock indices that are becoming increasingly common of late, according to Charlie McElligott, Equity Derivatives Strategist at Nomura.

The big trading shops have been buying, or, as McElligott puts it, “YOLO-ing,” these near-expiry options as part of a broader trading strategy that allows them to profit by anticipating the hedging activity of the big option traders. .

In a note to clients, McElligott compared the behavior of these professional traders to inhabitants of the popular day-trading-focused subreddit “Wall Street Bets.”

“YOLO’ing in 0 and 1 Days-Til-Expiration (DTE) Options has now been ‘institutionalized’ by Vol traders in many of the larger funds on the street… I mean, it’s no longer about that only retailers play this game.” McElligot said.

‘WSB’ readers may recognize the strategy from the “lost porn” posts and memes littering the popular forum, which rose to fame in early 2021 when its readers were credited (or rather, blamed). for fueling the massive rally in GameStop Corp GME stock,

Retail traders once dominated trading in this corner of the options market, but that has changed in recent weeks as institutional traders have taken over while retail traders have pulled out, McElligott said.

Rather than betting recklessly like amateurs using Robinhood, these professional volatility traders are buying these options as part of a calculated strategy to force the big traders to move the markets in their favor, as McElligott explains.

McElligott even has a name for this type of trading: “armed gamma,” which is a reference to the hedging strategies dealers employ to de-risk their clients’ options trades.

The strategy has enabled these traders to generate profits in a volatile trading environment while minimizing their risk. Traders often close trades “mere hours” after opening them.

In that sense, these professionals are behaving like “full day traders, using the certainty of the dealer’s hedging flows that create their orders to then amplify and ‘accelerate’ the intended market directional movement,” McElligott said.

To illustrate his point, Nomura’s CEO shared several charts showing how trading volume in one- and zero-day options has increased dramatically as a percentage of total trading volume in options linked to the performance of the S&P 500 SPX.
SPDR S&P 500 ETF SPY Trust,
and the Invesco QQQ Trust Series 1 QQQ,
which are among the most popular products for stock option traders.


Investors piled into these near-expiry options ahead of last Friday’s expiration, which likely contributed to the huge intraday reversal that occurred a week ago on Oct. 13, when the S&P 500 posted its biggest intraday percentage point change since 2008. According to Dow Jones market data.

Options linked to stock indices, exchange-traded funds and individual stocks often expire on Fridays, but some short-term options also expire on Wednesdays. Stock options with trillions of dollars in notional value are due to expire on Friday.

US stocks posted another intraday turnaround on Thursday as the S&P 500 rose sharply earlier in the day before falling 29.38 points, or 0.8%, to finish at 3,665.78. Both the Dow Jones Industrial Average DJIA,
and the Nasdaq Composite COMP,
recorded similar intraday fluctuations.

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