Podcast Summary
Retail Traders and Options Markets Intersection: Retail traders' aggressive options strategies through platforms like Robinhood and Wall Street Bets are causing uncertainty in financial markets, with SoftBank's involvement adding to the intrigue. Delta hedging, a strategy used in options trading, is gaining prominence.
The intersection of retail traders and options markets is causing significant buzz and uncertainty in financial markets. Principal Asset Management, a real estate manager, utilizes a 360-degree perspective to identify compelling investing opportunities. In the current market climate, retail traders are aggressively using options strategies, particularly through platforms like Robinhood and Wall Street Bets. This activity has raised questions about its impact on underlying stocks. SoftBank, a Japanese conglomerate, is also involved in options trading, adding to the intrigue and potential market influence. Delta hedging, a strategy used in options trading, has gained prominence as a result. Ben Eifert, CIO at QVR Advisors, joins the Odd Lots podcast to explain delta hedging and the current state of options markets. Investing always involves risk, and the market dynamics highlighted in this discussion underscore the importance of staying informed and adaptable.
Understanding Call Options and Market Maker's Role: Retail investors can use call options to express a directional view with limited risk, while market makers hedge their exposure by buying/selling underlying stock, potentially creating leverage for retail investors. Short-term options have gained popularity for their flexibility and potential high returns, with volumes increasing significantly.
Call options offer retail investors a way to express a directional view on a stock with limited risk. However, it's important to remember that the other side of the option trade is held by a market participant without a directional view. Market makers, who sell these options to retail investors, hedge their exposure by buying or selling the underlying stock. The sensitivity of the option to the stock price (delta) depends on the stock price and time to maturity, and can change significantly if the stock price moves. Market makers must adjust their hedges accordingly, potentially leading to significant buying (or selling) of the underlying stock by the market maker, creating leverage for the retail investor. Recently, short-term options have gained popularity due to their flexibility and potential for high returns. With advancements in technology, trading short-term options has become easier and more accessible to retail investors. Volumes in short-term options trading have increased significantly, with some exchanges reporting record trading volumes. Retail investors are using short-term options for various strategies, such as trying to profit from short-term price movements, hedging existing positions, or generating income through option premiums. Overall, short-term options offer retail investors an exciting and dynamic way to participate in the stock market.
Small investors' shift to call options trading in S&P 500 and tech stocks: Small investors are heavily investing in call options for S&P 500 and tech stocks, increasing trading volume from $100B to $500B in 2 years, with daily volumes reaching $200B.
There has been a significant increase in the trading volume of short-term bullish call options by small investors in the S&P 500 and tech companies over the past few years. This trend started before the COVID-19 pandemic but gained momentum due to the elimination of brokerage commissions and the popularity of retail trading platforms like Robinhood. The growth in call options trading is parabolic and heavily concentrated in mega cap tech stocks, with daily volumes reaching over $200 billion. This shift in trading behavior is noteworthy as it represents a seismic change in the way small investors approach the markets and could have significant implications for market volatility and stock prices. The data, reported by the Options Clearing Corporation (OCC), shows that the notional trading volume in call options has increased from $100 billion in 2019 to $500 billion today. This trend is unlikely to reverse anytime soon and underscores the importance of staying informed about market trends and being adaptable to changing investor behavior.
Retail Traders on Robinhood and Wall Street Bets Impact the Market through Option Buying: Retail traders on platforms like Robinhood and communities like Wall Street Bets have a significant impact on the market, particularly in the option markets, through their large numbers and understanding of gamma and market maker dynamics.
Retail traders on platforms like Robinhood and communities like Wall Street Bets have a significant impact on the market, particularly in the option markets. This community, which gained notoriety during the GameStop saga, is not limited to Robinhood but can be seen across major retail brokerages. Their large, explosive growth contributes to massive option flow that sophisticated market players closely monitor. Retail traders, aware of gamma and market maker dynamics, use this knowledge to create feedback mechanisms that amplify market trends. While their direct stock exposure may not be massive, their option buying significantly impacts the market direction. The SEC is also keeping an eye on such activities. The overall impact of these traders on mega-cap tech stocks, which have been in focus recently, is to create trend amplification mechanisms.
Retail option buying and institutional selling impact stock prices: Retail option buying can amplify stock price trends, while institutional selling can dampen them. SoftBank's option market making activity, though significant, has a smaller impact on the market compared to retail traders.
Retail option buying and institutional selling can significantly amplify price movements in the stock market. Using the example of Tesla call options, when there is heavy buying, the delta goes up, forcing market makers to buy stocks, amplifying the trend. Conversely, when there is heavy selling, the delta goes down, forcing market makers to sell their hedges. SoftBank, despite its large equity positions in mega-cap tech companies, has a tiny impact on the market compared to the volumes and market caps involved. However, SoftBank's option market making activity, specifically large call spread buying for equity replacement purposes, has been a notable trend since early August. These trades, executed delta neutral, have been large and have attracted attention, but their source is not always identified. Overall, retail option buying and institutional selling can have a disproportionate impact on stock prices.
Investors use call spreads to limit potential losses: Investors like Principal Asset Management and SoftBank employ call spreads to protect against market downturns, not affecting stock prices or volatility significantly
The use of 3-month call spreads by investors, such as Principal Asset Management and potentially SoftBank, is a common risk reduction strategy. This strategy involves replacing long equity positions with options, specifically call spreads, to limit potential losses if the market takes a downturn. Although these trades can contribute to market dynamics, particularly in relation to implied volatility, they do not have a meaningful impact on stock prices or acceleration of price moves. The use of call spreads by a firm like SoftBank, which is typically associated with venture capital investments, may seem unusual, but it demonstrates the flexibility and adaptability of investment strategies in today's market. SoftBank's involvement in this type of trading could be seen as part of their overall risk management strategy, and the decision-making process behind these trades likely involves a collaboration between various teams within the organization.
Impact of small traders on financial markets through social media: Small traders, fueled by social media platforms like Discord and Reddit, now hold significant market influence, differing from the past when a few large investors dominated. High-risk trading strategies, like call options and short-term plays, are popular but come with potential for substantial losses.
The coordination and impact of small traders in today's financial markets, through social media platforms like Discord and Reddit, is vastly different from the past when a few large investors held significant market power. Wall Street Bets, a community known for its gamified, aggressive risk-taking culture, has a broader and more diverse range of participants compared to the nineties when retail option trading was popular among tech-savvy professionals. While the current trend of call options and short-term trading may seem exciting and different from traditional long-term investing, it's likely that significant losses among heavily involved traders will eventually lead to a shift in market trends. The role of technology and social media in enabling rapid coordination and amplifying trends cannot be ignored. However, it's important to remember that high-risk trading strategies come with significant volatility and potential for substantial losses.
Understanding Risks in Options Trading: Options trading involves high volatility and potential for significant losses. Delta hedging can help mitigate risk, but requires complex modeling and market data observation.
The risk-taking culture in some financial markets, particularly when it comes to buying short-term options like upside calls, can be extraordinarily risky and potentially result in significant losses for individuals. This is because the options have a high degree of volatility and the potential for large gains is balanced by the risk of losing all of the investment if the underlying asset doesn't move as expected. The speakers also discussed the concept of delta hedging, where dealers buy stock to hedge their exposure to options, and how it might be possible to estimate the degree to which dealers are forced to buy or hedge based on market data. However, this is a complex modeling exercise that requires observing all trades, making assumptions about the types of traders involved, and estimating the gamma profile of different types of market participants. Overall, the conversation highlighted the importance of understanding the risks involved in options trading and the potential impact of retail investor behavior on market dynamics.
Retail Investor Behavior Impacts Dealers and Market Makers: Retail investors' large purchases can catch dealers off guard, leading to unexpected losses and increased implied volatility. Despite risks, dealers can hedge and are unlikely to face catastrophic losses.
Dealers and market makers can be impacted by retail investor behavior in the markets, leading to unexpected losses and market shifts. These dealers may underestimate the size and influence of retail flow, particularly in speculative stocks and options. When retail investors push prices higher through large purchases, dealers may be caught off guard and end up losing money. This can result in increased implied volatility and dealers charging higher prices to facilitate trades. Despite the risks, dealers are unlikely to face catastrophic losses due to their experience and ability to hedge. The speed and intensity of retail investor returns to the market after a sell-off was surprising, as was the consistent growth of the retail investor community during the pandemic.
Retail Trading Surge During COVID-19: The retail trading trend, fueled by platforms like Robinhood and social media, has seen a significant increase during the pandemic, with a focus on options trading and coordinated buying on platforms like Wall Street Bets. Some view it as a passing fad, while others see it as a new form of entertainment.
The retail trading phenomenon, driven by platforms like Robinhood and fueled by the gamification aspect of investing, has seen a significant surge in participation since the COVID-19 pandemic. This trend, which was already on the rise before the crisis, has accelerated, with a notable increase in options trading and coordinated buying on social media platforms like Wall Street Bets. While some argue that this behavior may return to normal once the excitement wears off, others believe that it has become a form of entertainment rather than just a way to make money. The impact of this trend on the market is still uncertain, and regulators are closely watching to see if any action is necessary. Ben Eifert, our guest on the podcast, shared his perspective on the trend, dismissing the SoftBank Whale theory and explaining call spreads as a risk mitigation strategy rather than an outright bet. Overall, the retail trading trend is a clear example of how the COVID-19 crisis has accelerated preexisting trends in the financial world.
Bloomberg launches new podcast 'Money Stuff': Bloomberg introduces a new podcast, 'Money Stuff', hosted by Matt Levine and Katie Greifeld, based on Matt's finance newsletter. Listen every Friday on major podcast platforms.
Bloomberg is launching a new podcast called Money Stuff, hosted by Matt Levine and Katie Greifeld. This podcast is based on Matt's popular Wall Street finance newsletter of the same name. Listeners can tune in every Friday to hear Matt and Katie discuss finance and other related topics. Money Stuff is now available on major podcast platforms, including Apple Podcasts and Spotify. This new podcast is a great addition to Bloomberg's existing lineup, and is sure to be an interesting listen for anyone interested in finance and the markets. If you're already a fan of Matt's newsletter, this podcast is a must-listen. And if you're new to his work, this is a great way to get started. So, be sure to check it out and stay informed on the latest happenings in the world of finance.
