Market Events
Tuesday, August 13th 2024
Did 0DTEs Contribute To The Crash on August 5th?
Analyzing skew and IV levels can help explain the recent market correction
Summary
0DTE options trading, usually balanced and liquid allowing market makers to hedge their short put skewed normal positions, turned against the norm on August 2nd the trading day before the mini-crash on August 5th.
Matt Amberson, Principal of ORATS, has argued that the trading in 0DTE options has helped to stabilize markets since their inception in May of 2022. Since that time the slope which measures the relationship between put and call implied volatility (IV) has fallen into a different range paradigm where the prior support has become the resistance. This fall shows that market makers have pulled back on bidding up the puts that they are normally short because of natural long hedgers and raised up the calls they get long because of all the call writers. Matt argues that the balanced and large trading in 0DTEs and related shorter dated options allows the market makers to buy in puts and sell calls, and alleviates their having to keep the skew slope elevated towards the puts.
However, the mini-crash on the fifth of August things changed. Things actually changed in the days preceding the fifth.
On the morning of August 5th, minutes before the open of regular trading, the VIX that trades in the pre-market hit an astronomical 65%. Matt was quoted, “The spike was before the open and probably from panicking traders in a thin market. I would ignore the 65% print.”
Five minutes after the market opened that day, the IV30day was about 30% and the VIX was about 40% owing to the large skew in the SPX. The S&P moved that day at a historical volatility of 37%.
The IV30day way-out-of-the-money skewed low strike puts went from 36% IV the night before to 90% in the morning as small-priced puts were bid up.
The 0DTE IV was very elevated to about 80%.
Matt’s take is that the options prices behaved as they should for such a fall in the underlying market.
The 0DTE contributed by not being there for the market makers.
Market makers probably did contribute to exacerbating the downward move because their positions got away from them and they probably did have negative gamma. I say this because of the huge move in skew slope from the first to the second, from a new normal of about 5% to 9%.
- July 31 slope=4.8% and call volume 545k put volume 612k
- Aug 1 at the close slope=5% = normal. EOD 0DTE call volume 1050k put volume 986k
- Aug 2 mid-day slope=8%!. EOD 0DTE call volume 765k, put volume 889k
- Aug 5 mid-day slope=9% peak. EOD 0DTE call volume 496k, put volume 616k
August 2nd was the pivotal day when put volume out paced call volume and the 0DTE liquidity went from protector to villain for the market makers.
Now slope is back to an elevated 7% but down from 9% as things settle down to an unhappy calm.
Recently, Matt was also on Yahoo! Finance sharing his thoughts on NVDA and how traders can best navigate these volatile markets.
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