Friday’s Market Surge May Prove Unstable
Members of Navigating The Markets Got This Sent To Them Yesterday….
Today’s free article follows the same structured framework used in Navigating the Market commentaries.
Key Takeaways
Friday’s rally appears to be mechanically driven by a negative-gamma regime, forcing market makers and hedgers to buy back S&P 500 futures as the index surged toward the 6,900 zero-gamma level.
The VIX dropped four points, but call implied volatility fell much faster than put implied volatility, suggesting call holders were taking profits while put holders largely maintained their positions.
The rally appears technically unstable and has historically tended to retrace, with significant headwinds ahead, including approximately $62 billion in Treasury cash drains next week, as well as jobs and CPI reports likely to push implied volatility back higher.
Market Overview
It was a volatile week that ultimately yielded no results. Three consecutive down days were followed by a sharp snapback on Friday, leaving the S&P 500 roughly flat for the week. The Friday rally had all the hallmarks of a mechanically driven move rather than a fundamental shift in sentiment.
Entering Friday’s session, the market was firmly in a negative-gamma regime. In this environment, market makers are effectively forced to trade with the market—buying as it rises and selling as it falls—which amplifies moves in both directions. Once the market began moving higher, the negative-gamma positioning created a feedback loop that accelerated the rally.
The move continued until the S&P 500 reached approximately 6,900—the estimated zero-gamma level. At that point, market makers likely flipped into positive gamma, becoming sellers on rallies and buyers on dips, which capped upside and brought stability for most of the afternoon session. It was only in the final minutes of trading that the index gained further.
Volatility Analysis
The VIX fell four points on the day, and the CBOE’s VIX Decomposition Index provides a useful breakdown of what drove that decline.
The sticky strike component shows that as the index rose, implied volatility fell naturally by sliding along the existing volatility curve. With Thursday’s IV sitting around 18, the move higher in the index brought IV down to approximately 14 simply through the mechanical relationship between spot and implied volatility.
Call skew dropped sharply relative to put skew, indicating that most of the activity was on the call side. It is possible that call holders were likely selling into the rally, while put holders largely stood pat. Looking at the volatility surface, we see that for both one-week and one-month tenors, call implied volatility declined faster than put implied volatility relative to the prior session.
(LSEG)
Overall, it appeared that much of the move was a mechanical unwind in a negative-gamma regime, with call holders monetising gains while downside protection remained firmly in place.
Zero-DTE and Flow Dynamics
Additionally, most of Friday’s trading volume was concentrated in ODTE, primarily on the call side. This zero-DTE call buying likely added fuel to the rally, creating additional hedging demand that accelerated the move into the 6,900 area.
(Optioncharts.io)
Week Ahead Outlook
With the VIX closing at around 17.8 and volatility largely reset, there may be room for a modest push higher on Monday toward the 6,950 resistance area if one-day implied volatility compresses further. However, there simply isn’t much volatility left to sell in order to drive the index materially higher from here.
It is likely to become more challenging starting on Tuesday. A $40 billion Treasury cash drain on Tuesday and a further $22 billion on Thursday will tighten liquidity conditions. Additionally, the jobs report and CPI release are due; historically, these data releases have tended to increase implied volatility. The combination of liquidity drains and rising event-driven IV creates meaningful headwinds once we move past Monday.
Additionally, the gap on Friday following a weak close on Thursday tends to be unstable and to retrace over time. Previous examples of similar setups eventually gave back their gains.
-Mike
Glossary By ChatGPT
Negative Gamma: A positioning regime where market makers’ hedging activity amplifies market moves. As the market rises, they must buy; as it falls, they must sell—creating a feedback loop that accelerates moves in both directions.
Positive Gamma: The opposite regime, where market maker hedging dampens moves. They sell into rallies and buy into dips, acting as a stabilising force.
Zero-Gamma Level: The price level at which aggregate market maker gamma exposure flips from negative to positive (or vice versa). On Friday, this was approximately S&P 6,900.
VIX (CBOE Volatility Index): A measure of expected 30-day implied volatility on the S&P 500, derived from options prices. Often called the market’s “fear gauge.”
VIX Decomposition Index: A free CBOE tool that breaks down daily VIX changes into component drivers—sticky strike, parallel shift, and skew effects—allowing for a more granular understanding of what moved volatility.
Sticky Strike: The component of a VIX move attributable purely to the index moving along the existing volatility curve. As spot rises, you slide to a lower-volatility point on the curve, mechanically reducing IV.
Parallel Shift: The component of a VIX move driven by the overall level of implied volatility shifting up or down, independent of where spot sits on the curve.
Call/Put Skew: The difference in implied volatility between call and put options. A decline in call skew relative to put skew indicates heavier selling pressure on calls while put positioning remains intact.
Implied Volatility (IV): The market’s expectation of future price movement, derived from options prices. Higher IV means options are pricing in larger expected moves.
Volatility Surface: A three-dimensional representation of implied volatility across different strike prices and expiration dates. Comparing surfaces across days reveals how the market’s risk expectations are shifting.
Zero-DTE (Zero Days to Expiration): Options contracts that expire on the same day they are traded. These have become a dominant source of intraday flow and can significantly influence short-term market dynamics through delta-hedging effects.
Delta Hedging: The process by which market makers offset their directional exposure from options positions by trading the underlying index or futures. This activity is what creates the gamma-driven flows described above.
Treasury Cash Drain: Periods when the Treasury settles auctions or makes payments, pulling reserves out of the financial system and tightening short-term liquidity conditions.
Full Transcript by ChatGPT
Hi, everyone. So this was a pretty crazy week. We saw three strong down days and then a big snapback on Friday. It resulted basically in a week that we just finished flat. And so, you know, the movements on Friday looked very much mechanically driven. I talked about this with users in the member area. But before we get too far, please remember to subscribe to this channel, like this video, share it with your friends. I am sick, so I’m doing the best here I can with my voice.
But, I think it’s important to note that going into yesterday, we were in a negative gamma regime. And so when you’re in negative gamma, it’s important to remember that market makers are basically going to go with the direction of the market. And when you get too far into negative gamma territory, the moves can be, you know, kind of explosive. And so going into Friday’s trading session, we were in negative gamma. Now coming out of Friday’s trading session, it appears we’re in back in the positive gamma.
So the flows that we were seeing on Friday are basically gone at this point, and we’re more likely to see some stability coming forward.
And, you know, when you just look very quickly, the volatility index of VIX fell by four points. And so the CBOE has a great tool they have called the VIX decomposition index. It’s free. All you have to do is Google it, and it shows you the date for yesterday. It tells you basically, it gives you a breakdown of what’s happening here, showing you the four point decline, how much percentage was.
But really more importantly, it’s telling you how exactly the VIX moved to where it was. So the sticky strike is essentially just the strike price. And as the index rose, volatility just naturally fell, just sliding along the curve. Parallel shift is essentially the direction of volatility. So in this case, because we were on Thursday, we were at an IV of eighteen.
By the time we got down to, we slid down the curve and IV fell from around eighteen to about fifteen and a half. You can see that right here.
So a lot of that reason why you saw the VIX come down on Friday was because, number one, the market moved higher, and number two, because there was a little bit of, in other words, IV reset a little bit lower. But I thought what’s interesting here was that call skew was sharply lower when compared to put skew. So what this is indicating is that most of what we were seeing on Friday was likely resulting from people who had calls probably selling them, while people who had put positions don’t really appear to have changed their position by very much. In other words, they didn’t lighten up their positions very much.
And you can see that a little bit better when you look at the volatility surface of the S&P when you look at it. So if you look at the implied volatility on Friday and compare it to the implied volatility on Thursday, you can see here on the ratio is that the calls implied volatility was declining faster than that relative to where it was previously versus the put implied volatility.
When you look at it, that was for one month. When you look at it for one week, you can also see that the calls were also seeing it relatively falling faster than where it was on Thursday. And when you look at both of them, you get the same picture. So, essentially, again, this is kind of confirming what the VIX decomposition index was showing, which was that implied volatility for the calls was falling faster or steeper than that of the puts, relatively speaking. And, again, that’s likely because what we were seeing in the marketplace was the index rising rapidly. And because we were in negative gamma, you can see we rose right up until we got to around sixty-nine hundred, and that was where we stalled out for most of the afternoon until the very late part of the day. Now sixty-nine hundred was an important level, it roughly being the zero gamma level yesterday. This isn’t including yesterday’s strike, but the zero gamma level was in the sixty-nine hundred area.
And so what this kind of indicates to me, again, is that I think mostly what we saw yesterday was a negative gamma regime, basically forcing hedges and market makers to buy back S&P 500 futures. And the more that we rose up until sixty-nine hundred, the more the index accelerated higher. Once you hit sixty-nine hundred, you kinda hit the crossing point where market makers probably flipped into positive gamma. They become sellers as it moved up, and they became buyers as it moved down. I think for the most part, it was mostly a mechanical move.
I think it was probably also aided by the fact that most of the trading volume yesterday, or almost the majority of the top volume, was basically all in zero DTE, and most of it was also on the call side. If you notice, they were all sixty-nine forty, thirty-five. So a lot of this was probably also aiding in the acceleration of the move. You know, that said, I think it’s probably what this is telling me at least is that with volatility largely reset, it’s possible that, you know, on Monday, maybe the market tries to move higher and test the sixty-nine fifty area if they can get volatility on the one day down further, which is likely to fall. And the VIX basically closing at seventeen. It tells you that basically there’s just not a lot of volatility to sell at this point to drive the index significantly higher. Sixty-nine fifty would probably be the next area of resistance on the index. The problem is that on Tuesday, you’re gonna have a cash drain of forty billion, and then on Thursday, you’re gonna have another twenty-two billion.
On top of that, we’re gonna have the job report and the CPI report. Historically, when we have those reports, we tend to see implied volatility rise. And so you have the combination on Tuesday of the potential for treasury settlement on top of rising implied volatility, and the same for Thursday because Friday, you’ll have the CPI report. So that will make it a more challenging point once we move past Monday. So, again, I think it’s possible that we could rally on Monday further.
There is still a little bit of volatility there if they wanna try to push it further. On the other flip side, I think for the most part, the move higher in the market was probably largely unstable. I think it was mostly, again, driven by a negative gamma regime.
These type of patterns where you declined into the close and then gap higher the next day tend to retrace over time, and so it wouldn’t really be surprising to me to see that happen. Here was one such example where we gapped lower, traded lower, gapped higher. We gave it all back, eventually moved higher again. Here it is again, gapped low, moved lower, gapped up. We traded this way for a while, but then eventually gave it all back. And so I tend to think that you’re probably going to see us move back down towards the end of this lower range before all is said and done.
It doesn’t mean it happens on Monday, Tuesday, or Wednesday, but I think that’s ultimately probably where we’re going back to, especially with all the liquidity that’s being drained out of the marketplace at this point. Anyway, have a great weekend, and we’ll see you soon.
Defined Terms and Jargon by ChatGPT
Negative Gamma: An options positioning environment where dealers must buy as prices rise and sell as prices fall, amplifying market moves.
Positive Gamma: A regime where dealers sell into rallies and buy into declines, helping stabilize prices.
Zero Gamma Level: The price level where dealer positioning shifts from negative to positive gamma, often acting as a temporary pivot or resistance area.
Implied Volatility (IV): The market’s expectation of future price movement embedded in option prices.
VIX Decomposition: A breakdown of changes in the VIX into components such as price movement and volatility shifts along the curve.
Skew: The difference in implied volatility between options at different strikes, often compared between calls and puts.
Zero-DTE Options: Options that expire the same day they are traded, often associated with sharp intraday price moves.
Liquidity Drain: The removal of cash from the financial system, often through Treasury settlements or government issuance, which can pressure risk assets.
Disclaimer
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