There is a sort of, somewhat twisted logic to the renewed rise of meme assets. It is true that in the world of cryptocurrencies, these assets do not represent or are backed by anything other than the belief that the game of supply and demand will keep their price high. The case of meme stocks or cryptocurrencies is particular to the extent that they do not actually represent anything either, but they do not even have the appearance of doing so. Even so, dogecoin, the representation of a joke, is worth as much as Telefónica.
The twisted logic assumes that when bitcoin enters bullish mode it will infect other cryptocurrencies under the belief (they are all beliefs) that this will happen, as in fact it does. Under this premise, the most bizarre investments can make sense, because although 99 out of every 100 tokens continue to have practically zero value, it is enough for one of them to combust (beyond rational considerations) for the bet to make sense.
Perhaps meme stocks have sublimated the idea of the stock market converted into a casino. But the very serious gentlemen of Wall Street also launch similar bets, only in this case through financial derivatives, specifically options. The purchase of an option, for those who missed the class, is a financial contract that gives the right, but not the obligation, to buy (call) or sell (put) a stock (or any other asset) at a certain price. The buyer pays a fixed premium; If at expiration the price is favorable (the stock is more expensive in the market than in the contract in a call option, or the other way around, in the case of a put), the option is executed and the buyer wins. Otherwise, he only loses the bonus.
Traditionally, options were settled monthly, that is, the contracts referred to a specific day of each month, the third Friday. After that date they cease to be valid, and the transaction is closed in favor of the buyer or seller. From the price of these options, the Vix index is calculated, also called the fear index: the more money option sellers demand to protect themselves from a fall in the S&P 500, the higher the Vix is.
In 2023, however, a new type of options gained weight, with an expiration period of one day: the investor bets on the rise or fall of a stock at the close of that day, and on the same day he wins or loses. “Trading volume has increased in recent years because these options are relatively small and provide certain investors with a lottery-like reward, with extremely high but highly unlikely returns,” the BIS said in its quarterly report presented this week.
The figures of this market fit more with the Euromillions draw than with investment: the leverage can reach 400 times. As with the lottery, the average performance of these is terrible, a dizzying -32,000% in annualized terms. But sometimes it obtains a capital gain, no less dizzying than 79,000%. Traditional options are not for long-suffering stomachs, but they operate on another order of magnitude: the average annual return is -550% and, in the best case, the positive return is 2,500%.
This type of extreme operation has found followers. If two years ago overnight options were 20% of the volume (over the total options on the S&P 500), now they are half. It is not a very different operation from that of meme stocks. Nor about the lottery, at the time defined as a tax for those who do not know mathematics. This behavior may be conditioning the market. Or, rather, it is unlikely that it is not doing so, although we may not really know how. But in parallel to this dynamic, the market is mutating in other ways.
Investment in very short-term products with very unequal returns is similar, according to the BIS, to the lottery
If the quotes reflect the euphoria around Nvidia, the effervescence in the options market dwarfs any comparison. Two weeks ago Nvidia stock options (at any term) moved more than $20 billion. For comparison, the options on Microsoft or Apple were barely around 1 billion, according to The Wall Street Journal. The second most moving stock in the options market that week was Supermicro, whose effervescence cannot be separated from that of Nvidia. One of the most traded options contracts ahead of Nvidia's earnings release was one that pointed to the stock doubling its prices; The lottery with Nvidia (at least those days) was not the exception, but apparently the norm.
The effect on the market is more difficult to pinpoint than the fact that these phenomena are happening. Some analysts have pointed out that the rise of overnight options compared to one-month options has reduced demand for the latter, biasing prices downward. The BIS, however, believes it is more likely that the surprising drop in the Vix is due to fund strategies that seek profitability by buying cash and selling options on the same underlying asset (almost always the S&P 500). The sale of these options would be artificially lowering their price and, therefore, the risk implicit in the Vix.
Regarding instability, the Cboe market rejects that zero-day options have triggered market volatility. And the world of options is a somewhat complex world to draw hasty conclusions from. But the rise of overnight options does reflect an investor preference for very short-term operations in search of quick returns.
The rise of ETFs is along these same lines; not only because they also facilitate short-term or leveraged operations, but also because they simplify the task of an investor who does not have to analyze ratios or compare values: choose the horse (index, asset, style, sector…) and place the bet. This investment style only works in favor of the trend and, therefore, is substantially procyclical. Nobody makes money fast by playing against. We will have to think, therefore, that in the absence of counterweights the bull market linked to certain assets will go further and faster, opening the door to larger scares.
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