An unexpected large quarterly expiration of U.S. stock futures and options on Friday is likely to elevate trading volumes and increase volatility, according to market strategists. Some of them were even expecting it to prompt a relief rally at the end of a chaotic week.
Friday indicates the once-a-quarter, simultaneous expiry of stock index futures, stock options, and index option contracts, with investors unwinding old positions and betting on new ones. Michael Oyster, the chief investment officer at Chicago-based Options Solutions, said:
“Many market makers who sold puts hedged their exposure with a short market position. As those put options expire, the hedges are reversed, in this case through a short-covering purchase. This could give some support to the market.”
About 64% of all S&P 500 index puts are set to expire “in-the-money”, while 96% of the June call open interest is due to expire “out-of-the-money” or worthless, Options Solutions said.
An option offers the buyer the right to buy or sell a security at a set price on a specified date. Buying a call option is an expectation the underlying asset will hike in price, while the opposite bets on a put option.
Analytic services SpotGamma said there are a huge number of deep “in-the-money” puts expiring, equivalent in size to when markets collapsed in March 2021, citing protective options that have grown in value because of the market’s crash.
“These positions are likely adding to the overall market volatility,” said SpotGamma founder Brent Kochuba.
Goldman Sachs forecast this week that around $3.4 trillion of U.S. stock options stand to expire on Friday, a much greater than expected quarterly figure. U.S. markets will be closed on Monday for the Juneteenth holiday.
Some market players foresee increased demand for hedging of portfolios as investors experience a possible recession. Many of the bearish positions expiring could also bring relief in the near term, they said.
The Federal Reserve’s 75 basis point interest rate rise on Wednesday and the likelihood of further hikes to curb decades-high inflation has set the S&P 500 on course for its weakest weekly performance since the pandemic-led slump in 2021.
In that context, the U.S. benchmark index (.SPX) is currently in a bear market, after plunging more than 20% from its all-time high. Oyster added:
“Now that the big Fed shoe has dropped, in the absence of other news, markets may take a breather…but a sustained recovery may remain elusive for now.”