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This week began with a notable resurgence in S&P 500. Columbus Day started with a remarkable 100-point upswing and the move extended into the current week, with S&P reaching $4,400. Conversely, Bitcoin (BTC) opened the week on a downtrend, slipping from $28,000 to $27,400 and has since remained near these lower levels. Ethereum (ETH) has sustained its downward trajectory from the previous week, breaking the $1,600 mark this morning and currently hovering around $1,550.
BTC implied volatilities have been somewhat responsive to recent price movements. Implied volatilities for shorter-dated expiries decreased by 1-2 points while December volatility experienced a substantial 4-point drop, sliding from 41.55 to 37.6. 2024 expiries like March and June witnessed a more moderate decline of about two points, with March moving from 47.81 to 45.64 and June now resting at 49.62.
ETH at-the-money vols also shifted down in a similar fashion to BTC, but more noticeable on ETH was the drop in longer dated call side volatilities, giving a much more pronounced negative skew. Also notable was the continuation of positive spot-vol correlation exhibited in the market. We also see a slight decrease in the butterfly index (a measure of convexity), making long wing positions like strangles and butterflies cheaper.
This week, we delve into the Greek known as Gamma, a distinctive Greek unlike its common counterparts. Gamma doesn't directly quantify an option's sensitivity to a specific pricing input variable. Instead, it measures the curvature or convexity inherent in an option's price concerning the underlying asset's spot price. Alternatively, it gauges how the option's delta responds to changes in the spot price. Mathematically, Gamma is the second derivative of the option price with respect to the spot price. Although it is not a “first-order” greek like delta or vega, it has massive importance and implications for those trading options. Gamma's presence in non-linear assets introduces an acceleration-like effect in the Profit and Loss (PnL) behavior.
To illustrate this point, consider a straightforward PnL calculation for a linear asset, such as a perpetual contract with a fixed delta. If the position has a delta of 0.50 and the spot price moves by $1000, the PnL is straightforward: Delta multiplied by the spot move, or ΔdS = 0.51000 = $500. However, for an option position with a 0.5 delta, the same $1000 spot movement yields a PnL of more than $500. This is because as the spot price rises, the option's delta increases as well, resulting in a convexly curved impact on the PnL, rather than a linear one. The increase in delta implies that, with each moment, slightly more than $0.50 per dollar move in the spot contributes to the PnL. A more accurate approximation of a trader's spot PnL is given by ΔdS + ½Γ*(dS)^2, where Δ is the option delta, Γ is the option's gamma, and dS is the change in the spot price. Assuming the gamma of this option is 0.00021, using this formula, we find that the PnL would be closer to 0.5*(1000) + ½0.00021(1000)^2 = $605
These insights have profound implications for both option traders and market-makers. Tune in next week for a deeper exploration of Gamma and its ramifications.
This week we see the combination spread volume shift back towards call based calendar spreads as predicted last week. The steepening term structure naturally creates demand for term structure based portfolios. BTC Deribit and Paradigm block trade data shows that the biggest volumes were in call diagonal spreads, call spreads, and strangle / straddles (26.8%, 23.8%, and 12.4%). Ethereum shows the highest volumes in risk reversals, call calendar spreads, and strangles / straddles (34.3%, 28%, 10.3%).
BTC Combo Spread Volumes:
ETH Combo Spread Volumes:
***Data and insights as of October 10th, 2023 12:00:00 UTC
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