Market Mechanics Can Have a Greater Impact on Short-term Trading Ranges as Expiry Approaches

Minneapolis, MN | June 6, 2023 | By: Steve Sinos, Blue Lacy Advisors, LLC

Market Mechanic: Brent's July options expired last week. Futures expire this week. The end of the month can often see volatility that is driven by the need to roll and manage risk.

Market Mechanic: Options Exposure

Options positioning drives a lot of market activity that causes confusion. Options valuation, strategy, and risk management are poorly understood among fundamental analysts and generalist market observers. You can see this in how most people track the CFTC Commitment of Traders (COT). Most people look at the net-long position in futures AND options, reporting weekly changes and commenting on whether speculative traders are expressing a bullish or bearish opinion based on net length. Including options positions, unfortunately, corrupts this analysis because the CFTC reports options positions on a net-delta basis. (Options Greeks are sufficiently important to merit individual study, so there is too much to get into here. Blue Lacy discusses them regularly with clients. To learn more email Steve Sinos below for more details.) One of the many applications of options delta is establishing the hedge ratio, which is how the CFTC reports the combined futures and options positions each week. This answers the question, “How many futures positions must a trader use to establish a neutral position?” For example, as of Friday’s close, the August Brent $75 Put had a delta of -0.375. From the CFTC’s perspective, the owner of an August $75 Put is short the equivalent of 0.375 futures. This is a clean way for the CFTC to report market positioning as a single number, despite the exchange listing three years’ futures contracts and more than 200 options strikes for most of those futures. The problem is delta changes with the passing of time, as the price of the underlying futures contract changes, and with changes in volatility. It is so important that we have Greeks that measure how sensitive the delta is to each of these variables, including gamma. Gamma estimates how sensitive the delta is to the change in the underlying futures price.

*This summary is based off May 28, 2023

A free excerpt, such as this one (Market Mechanic Can Have a Greater Impact on Short-term Trading Ranges as Expiry Approaches), will be published on a delay periodically. This is an excerpt from Blue Lacy Advisors, LLC's (“Blue Lacy”) weekly commentary for clients, which is based on a collection of models, research/analytical subscriptions, and bespoke work. Each week Blue Lacy explores how market drivers included in these analyses might affect or be used in clients' planning, budgeting, and execution of strategy. Call Blue Lacy to make an appointment today!