Shorter week + options expiry = compressed volatility?

Markets closed on Wednesday, options expire on Friday

Quick summary:

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  • Note: this week markets are closed on Wednesday, but the survey is still open as usual, for your Friday predictions.

• Last week saw a positive start with CPI data reported at 3.3%, slightly better than the expected 3.4%, followed by encouraging PPI figures. These reports signaled a potential easing of inflation, initially boosting market optimism and driving indices to new highs.

• Despite positive inflation data, the Federal Reserve's updated Summary of Economic Projections suggested a more cautious approach, with rate cut expectations reduced to just one for the year, revising the economic outlook to include higher projected inflation and unemployment rates.

• This week, several Federal Reserve officials are scheduled to speak, which might influence sentiment, particularly following the Juneteenth holiday when markets are closed. But options flows are likely to be even more important, given that we have the June options expiration coming up on Friday.

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The competition

Congratulations to our top performers on this week's leaderboard. As we move into the final two weeks of the competition, keep in mind that markets are closed on Wednesday, there’s an options expiry week on Friday, and what all this might imply for volatility and positioning (a bit more on this below). Best of luck to everyone as we approach the finish line!

Consistency is key to staying in the top. And good predictions, obviously.

NOTE: For all those new to the whole thing, read more about it here or watch a video of Scott and myself guiding you through the survey, showing you all its features, and briefly explaining how the competition works.

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Last week’s performance

Last week’s market movements were heavily influenced by better than expected inflation data, where CPI recorded a 3.3% inflation rate, prompting a surge to new all-time highs. However, the Federal Reserve's latest economic projections injected a dose of reality; the expectation for rate cuts in 2024 was revised down from three to one, signaling a hawkish outlook that includes higher projected inflation and unemployment rates by year-end.

After that markets remained flat. Fed Chair Jerome Powell, maintaining a neutral stance in his press conference, reiterated the Fed's data-dependent approach, soothing some concerns. Even with a hawkish tilt from the Fed, market dynamics were buoyed by the positive CPI figures, preventing what would have otherwise been a certain sell-off. As markets continue to digest mixed signals, the overarching sentiment remains cautious, with an eye on forthcoming economic data to determine the future trajectory of both policy and market performance.

But then on Monday we got another rally into all time highs, after a flat ending of last week. Too late for us, as we benefited only with a 1% return last week. Had the Monday move happened on Friday, that would have been the scenario we were waiting for. Oh well, another week another try.

This week shifts focus to remarks from several Federal Reserve officials. These comments are sometimes important as they might expand on Chair Jerome Powell’s recent reiteration of the Fed's data-dependent strategy, highlighted in a week that saw the market react to mixed signals from economic data and policy expectations. With markets, federal offices, and most banks closed this Wednesday for the Juneteenth national holiday (a new thing, don’t ask), the timing and content of Federal Reserve officials’ remarks throughout the rest of the week could be a potential driver for market sentiment.

Although probably more important will be options flows and positioning, especially given we are entering the June options expiry week (this Friday, 21st). Why is this important? In such weeks vanna and charm flows can compress volatility and send markets on a gradual grind up (watch this quick video from Cem Karsan or this slightly longer one from Sergei Prefiliev to get a good idea of how these flows work - or check the image below). Basically, as time decay kicks in and implied volatility go down, they force market makers to buy back stock. Especially after an important even passes. Keep an eye on volatility this week.

Source: Prefiliev Financial Training

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