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Selling In A Few Mega Caps Can Quickly “Turn Into A Waterfall”: Former CBOE Floor Trader

Courtesy of ZeroHedge View original post here.

Submitted by QTR's Fringe Finance


Ryan began trading in 2002 on the floor of the Chicago Board of Options Exchange (CBOE) as a market maker in the DJX and SPX pits. In 2005, he joined the proprietary trading firm Trebuchet Financial, where he continued to trade options and equities.

In 2014, he began using the @OpenOutcrier Twitter handle to post real-time stock and options trading headlines, breaking news, rumors and strategy.  In early 2017, http://openoutcrier.com was launched as an extension of the Twitter handle and integrated news platform.  

The site consists of the OOC Feed, a custom BenzingaPro newswire, chat room, curated social media feed, and searchable archive.

Ryan was one of the first people on FinTwit I started talking to years ago – I’ve known him somewhere between 5 years and a decade. I have since met him numerous times in real life at various conferences and events; and I recognize that he brings sharp insights, especially in the world of options, and a valuable – and different – perspective to the market and investing.

I got a chance to catch up with him for the first time in a long time this week. Here’s what we talked about.

Q: Ryan – you're an options expert – do you think the NASDAQ had an artificial price due to options buying in 2020 and 2021?

This depends on what you mean by "artificial price" and how far we want to go up the food chain to assign blame.

Its true that options volume has exploded in the last two years. From 2019 to 2020, daily traded options volume increased from about 10M per day to 17M per day, and from 2020 to 2021 the average daily volume was up another 16% from there. This has largely been attributed to increased retail activity trading very short term options. 

Call option volume heading from 2020, into 2021 (Chart via Zerohedge)

How and why did this happen? The pandemic sent a whole group of people home and then gave them stimulus checks to open and fund accounts. The simplest and most popular option strategy for this new generation of traders was buying out of the money short term calls and hoping for the holy grail gamma squeeze. A gamma squeeze occurs when the market makers, who short the calls that retail traders are buying, need to buy the stock to hedge against their short call position. The closer the stock price gets to their short call price, the more and more stock they need to buy to remain hedged and delta neutral.

Source: CBOE

I don't like the phrase "artificial price."  Sure, there are a myriad number of ways to evaluate and value companies and, by most of them, we are at historically high levels. 

But, to me, the price is just the price. It feels like we haven't been trading on fundamentals in years, especially in the NASDAQ. But in my experience, if prices seem out of whack and high, they usually get more out of whack before they come back into line. This makes placing a ceiling on the madness a fools errand.   

Would you'd like me to explain why I think the NASDAQ increased at an exceptionally fast pace the last couple of years?

Yes.

The Fed's easy money policies and an unprecedented government stimulus flooded the markets with capital that resulted in rising valuations of all market participants. Then, new retail traders’ excess cash chased the market higher using options to fuel a perpetual motion machine. 

Now, early in 2022 we're starting to see the effect of the decrease in Fed liquidity.  Stock and option volume is lower along with the overall market. Theoretically, an outsized buying of puts could create gamma squeezes to the downside, just like calls did to the upside.

However I'm more concerned about a lack of liquidity in the underlying bid of the markets. Buying the dip has been a successful strategy in the markets for so long, most traders are conditioned to return to that well (and have been rewarded for it).  But if there's a real break lower in the markets and a real sense of fear I think the drop will be swift and violent. Until then, just keep swimming.

What’s one factor about our current markets that doesn’t get enough attention?

One factor about our current markets that doesn't get enough attention, in my opinion, is the explosion in the number or ETFs over the past ten years and the huge volume traded there.

Tesla is a holding in over 200 different ETFs – when TSLA stock goes higher all these ETFs need to buy TSLA stock to match its weighting and performance. The same is true when TSLA stock goes lower; all the ETFs need to sell. 

Source: ETF.com

This is true of any major ETF held stock: when it goes higher, more funds need to buy it (and need to sell it when its going lower). All this is fine when the markets are functioning normally, but in moments of inefficiency, when liquidity dries up, this can lead to huge volatile moves.

So, blame the algos, blame the ETFs, blame the Fed, but this is how fear and selling in a few of the markets’ mega-caps can quickly cascade into a waterfall.

  •  

What equities interest you hear with the market about 10% off its highs? What sectors do you like?

I am a primarily an options day trader. I enter the day with no position and I (usually) end the day with no position. The moment I try to pick sectors and stocks that I like or dislike, I become biased and may lean in a direction, contrary to what the market is presenting me each day.

I attempt to be agnostic. That being said, I do try and be aware of trends that can help me to react to, and digest, news more quickly. 

In 2021, we had the meme stock craze and COVID vaccine stocks. In 2022, so far, we've seen oil and bank stocks outperform, and Trump related stocks have been great to trade, like $DWAC, $CFVI and $PHUN.

I believe there are two ways to approach markets: as a trader or as an investor.

As a trader, you need to think fast and act faster: this is where I excel as a daytrader.  As an investor, you need to think slow and act slower. To me, this means being thoughtful and well researched, then not panicking over short term volatility and keeping a very long time horizon. I am not good at thinking like an investor. I stay focused on my day to day job of being a trader. Then I put a chunk of money away for the long term each month and have other professionals help to manage it.

When I tried to do both myself, thinking short and long term, as both a trader and an investor, I found one side bled into the other too much for me and it affected my results in both arenas. 

What's your outlook on commodities? Any that you like more than others, and why?

I don't trade commodities, but I am aware of general directional moves for commodities that effect stocks and sectors that I'll trade the most. Right now, that means I'm aware of the oil price as it approaches $100, and this is directly related to oil stocks leading right now. If the price of oil starts to fade, then I'll look for oil stocks to follow and it'll be time for another sector or narrative to lead.   


I'm also very aware of Bitcoin's price and how it, in turn, effects the Bitcoin stock basket (MSTR, MARA, RIOT etc.). Other than that, I'm more paying attention to supply constraints and supply chain issues as they relate to commodities and then looking for the related stocks to trade.

Part 2 to this interview will be posted here. In Part 2, we discuss:

  • How should options traders change their strategies once implied volatility blows out options premiums?

  • Hedging the broader market using options

  • China

  • Whether the Fed can hold its nerve


DISCLAIMER: Everything here is the opinion of OOC/Ryan Sellers. None of this is a solicitation to buy or sell securities. It is only a look into our personal opinions and portfolios. These positions can change immediately as soon as I publish this, with or without notice. You are on your own. Do not make decisions based on my blog. I exist on the fringe. These are not the opinions of any of my employers, partners, or associates. I get shit wrong a lot. I’m not a financial advisor, nor is Ryan. We hold no licenses or registrations and are not qualified to give advice on anything, let alone finance.

 
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