Surging Volume Deluges Market, Roils Stocks on Quad-Witching Day
U.S. stocks just had a tumultuous Friday as a quarterly expiration event added a burst of trading.
(Bloomberg) -- U.S. stocks just had a tumultuous Friday as a quarterly expiration event added a burst of trading.
More than 9 billion shares changed hands for the busiest trading day since the event known as quadruple witching last occurred three months ago. Throughout the day, the S&P 500 swung between gains and losses as options and futures on indexes and stocks expired. The gauge closed down 0.1% at 2,950.46.
“Quadruple witching” happens every quarter, often with a rebalancing of the S&P 500, and can spur volatility and share purchases by dealers. The event was cited by at least two chart-watching analysts as something that has added fuel to the rally for the week after Federal Reserve’s Chairman Jerome Powell opened the door to a rate cut.
The expiration weeks tend to bring wrinkles to markets as large derivative positions are rolled over. Trading spikes usually occur near the market open and close. The last time a “quadruple witching” and an S&P 500 rebalancing took place, on March 15, almost 11 billion shares changed hands, 39% above the average in the previous three months.
“They amplify/exacerbate moves in the markets as institutions update large derivatives positions,” Russ Visch, a technical analyst with BMO Capital Markets. “My general advice is to be wary of any outsized moves in quad expiry weeks because it may be nothing more than someone getting caught on the wrong side of a trade and/or unwinding a big position.”
Visch is skeptical of a rally that has added almost $6 trillion to equity values from the December low. While the S&P 500 has fully recovered from its near-death experience in late 2018, the damage to sentiment hasn’t healed.
“The quality of the rally since late May (narrow participation, extremely light volume) suggests it’s nothing more than a relief rally within an ongoing medium-term downtrend,” he said.
Among other signs of trepidation, hedge funds have resisted embracing stocks, with the ratio of long holdings versus shorts falling last week to the 16th percentile over the past 12 months, client data compiled by JPMorgan’s prime brokerage unit showed. A net 21% of money managers surveyed by Bank of America said they are underweight equities, the most bearish positioning since March 2009.
With so many tilting bearishly, a minor technical adjustment could spark a big upside move when liquidity is thin. And volume is relatively low. While the S&P 500 has advanced every week this month, daily trading on exchanges had stayed below the 2019 average in 10 out of the last 12 days.
This time, the rebalancing alone could force about $24 billion of trades, compared with $26 billion a year ago, S&P Dow Jones estimated on June 14.
One scenario on how Friday’s event may have boosted share prices was laid out by Charlie McElligott, a cross-asset strategist at Nomura. In a note earlier this week, he attributed buying to traders who sold bullish options on the S&P 500 at strike prices of 2,950.
The muddling effect from quadruple witching may not be over this week, according to McElligott. As the market loses the buying “impulse” from options traders, stocks may fall next week, prompting a narrative that investors are starting to doubt the Fed and setting the stage for the S&P 500 to rally to 3,000, he said.
“The market then risks ‘mis-reads’ this potential flow-centric weakness in equities next week as some sort of ‘fading the Fed’— when in fact it’s almost entirely mechanical in nature,” McElligott wrote. “This type of head-fake could in fact see more shorts added and sentiment purge, which then perversely is the fodder for a melt-up.”
--With assistance from Melissa Karsh and Rita Nazareth.
To contact the reporter on this story: Lu Wang in New York at lwang8@bloomberg.net
To contact the editors responsible for this story: Jeremy Herron at jherron8@bloomberg.net, Chris Nagi
©2019 Bloomberg L.P.