The S&P 500 And VIX May Test Key Gamma Levels Amid Rising Uncertainties

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The Next Leg Lower Nears...

It is likely to be a busy and volatile week of trading, given rising geopolitical uncertainty, the Treasury’s unrelenting need to raise cash to finance the deficit, and a slew of economic data. Add in, for good measure, Broadcom reporting results, which follow Nvidia’s results last week. The only thing that seems certain is the level of uncertainty.

Volatility was already elevated heading into Monday, and at least at the outset, it is likely to be even higher, with oil CFD markets showing the commodity up around 9% to roughly $73. Whether volatility remains elevated after the initial reaction is another question entirely. As we know, put owners tend not to hold their positions for long, which often leads to volatility being crushed and stocks rising. So it is entirely possible that if futures fall at the start of the day on Monday, a rebound could follow shortly thereafter in the S&P 500 as puts are closed out.

At least to start the week, there is a significant amount of call gamma built up at the $20 strike in the VIX, and the VIX is currently in positive gamma, with additional positioning around 22. With the VIX trading near 19.9, it may face strong resistance above $20 and could even see selling pressure if it spikes early.

In the meantime, the S&P 500 still has significant gamma built up at 6,800. That level will likely serve as the first line of support for the index. For now, it should continue to act as a line in the sand for the market.

With the index trading around 6,870, if 6,800 comes into play on Monday, it is likely to be an area where the market at least attempts to bounce on the first test — at least based on my crude computations.

Visually, this is fairly easy to see on the technical chart. Each time the S&P 500 has tested 6,800 in recent weeks, it has bounced, while the 6,900 to 6,950 range has acted as resistance.

That is not to say the market will or will not fall. It is simply to say that I am not convinced enough gamma has been eaten away yet for the index to meaningfully break below 6,800.

Monday is a Treasury settlement day, and there will be nearly $59 billion in coupon settlements. As we know, the market has not fared well on settlement days, falling on average by around 40 basis points, versus a gain of roughly 25 basis points on non-settlement days.

There will be another settlement of about $19 billion on Tuesday, followed by roughly $13 billion on Thursday. So this week is unlikely to be liquidity-friendly.

Once we get through Monday, volatility should begin trending higher throughout the week as we move toward Friday’s jobs report. At least for now, that is what the volatility curve is suggesting.

That likely means overall volatility will remain elevated for most of the week, potentially stuck in the 18 to 20 range — or even higher — depending on where oil trades and how things develop after Monday’s opening.

This was not shaping up to be a friendly week for the stock market, whether or not there was an event in Iran. Now, with oil poised to move higher, it adds another layer of uncertainty. Rising oil prices can be particularly challenging for rates if the market interprets them as inflationary.

For a long time, oil appeared to be the primary driver of Treasury yields, but that relationship has recently diverged. We will now see whether that divergence can truly persist. If oil is genuinely breaking out of its range and gasoline prices follow higher as a result, it will be difficult for 2-year rates to ignore the potential inflationary pressure that could emerge.

One key data point to watch will be the fourth-quarter productivity report on March 5. It is expected to rise 1.9%, down from 4.9% in the prior quarter. The real GDP slowdown in the fourth quarter already suggested some erosion in productivity. If productivity is weaker than the market expects, it could undermine the view that the Fed can cut rates without reigniting inflation. That, in turn, could put upward pressure on bond yields.

Rising oil prices would also be unhelpful for USD/JPY and could contribute to further yen weakness against the dollar. The 158 level in USD/JPY remains key resistance. A sustained break above 158 could open the door for a move toward 160.

A lot is happening — stay tuned.

Mike

Glossary by ChatGPT

Basis Points: A unit equal to one-hundredth of a percentage point, commonly used to measure changes in interest rates or yields.

Call Gamma: The rate of change of an option’s delta relative to price movements, associated with call options and often influencing hedging flows.

Coupon Settlement: The process by which newly issued Treasury securities are delivered and paid for, impacting market liquidity.

Gamma: A measure of how quickly an option’s delta changes as the underlying asset’s price moves, often influencing dealer hedging activity.

Liquidity-Friendly: A market environment characterized by sufficient cash flow and funding conditions that support asset prices.

Productivity: An economic measure of output per hour worked, often linked to inflation trends and long-term growth potential.

Put Owners: Market participants who hold put options, which increase in value when the underlying asset declines.

Real GDP: Gross domestic product adjusted for inflation, reflecting the true growth rate of an economy.

Treasury Yields: The return investors earn on U.S. government debt securities, often used as a benchmark for broader interest rates.

USD/JPY: The currency pair representing the exchange rate between the U.S. dollar and the Japanese yen.

Volatility Curve: The term structure of implied volatility across different maturities, reflecting market expectations for future price fluctuations.

VIX: The CBOE Volatility Index, which measures expected 30-day volatility in the S&P 500 based on options pricing.

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