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Another ‘Volmageddon’? JPMorgan becomes the latest to warn about an increasingly popular short-term options strategy.

Another big data day will test the animal spirits seemingly keeping stock markets from falling off a cliff despite rising bond yields and signs of a strong economy that could lock in more hawkish Fed policy for longer.

On our call of the day, warning of “Volmageddon” an increasingly popular short-term options strategy that could create market chaos. It comes from a team led by Marko Kolanovic, JPMorgan’s top strategist, who also warned of a US stocks top earlier this week.

Kolanovic and his team found “very large volumes” in zero days to options expiration (0DTEs) — puts and calls on stocks and indices that expire within 24 hours. Refresher: A call option gives an investor the ability to buy an asset at a specific price by a specific date, while a put option allows an investor to sell that asset at a specific price by a specific date.

Kolanovic’s chart shows what he sees as fairly high daily notional volume — around $1 trillion.

Its main concern is a repeat of what was seen in February 2018 when a surge in volatility destroyed short volatility strategies dubbed “Volmaggedon”. According to some estimates, it wiped out $2 billion in investor wealth.

“While history doesn’t repeat itself, it often rhymes, and recent selling of 0DTE (Zero Day to Expiration), daily and weekly options is having a similar impact on markets,” Kolanovic said.

“If there is big movement when these options come in the money and sellers cannot support these positions, forced coverage would result in very large directional flows. These flows could have a particular impact on markets given the current low-liquidity environment,” he added.

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As he explained, they are typically “low delta options that rarely come in the money and their action comes primarily from the suppression of volatility and an intraday buy-the-dip pattern that results from hedging ‘ says Kolanovic. Delta is a metric that measures how much a derivative’s price would change if the underlying security changes by $1.

MarketWatch’s Joe Adinolfi noted last October that 0DTE strategies were becoming more common, particularly among institutional traders who wanted to profit by anticipating the hedging activities of large options traders.

Others have warned about 0DTEs and the risk they pose to markets. Seabreeze Partners Management’s Doug Kass recently warned that investors became more confident after the market rebounded in January, but failed to recognize how changing market structures had affected market direction, namely those options that were about to expire.

All of this option talk comes as Bloomberg reports on the potential return of the “50-cent” VIX trader, which turned a loss into a profit of nearly $400 million on tiny bets on a volatility spike during that February 2018 chaos .

Transactions late Tuesday showed an investor paying 50 cents each for 100,000 call contracts valued at $5 million. The bet is that the cboe volatility index

IX

,
which is currently 18 will rise to 50 by May. A similar buy on Wednesday bought 50,000 such contracts at 51 cents each – for a total of $2.6 million.

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