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Lots of Gamma Exposure keeps the market afloat

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What is gamma exposure?

Source: TradingVolatility.com

There has been recent research published into the concept of “Gamma Exposure” (“GEX”) on the book of options Market Makers.

In summary:
– Market Makers provide a market for people to buy and sell options.
– Market Makers don’t just take the opposite side of the trade that investors take. They hedge their exposure so that they can profitably manage an options book.
– The hedges must be re-hedged daily so that their position can remain neutral as the underlying stock prices move.
– In scenarios where “Gamma Exposure” gets off balance to the negative side, Market Makers must sell as prices drop and buy as prices rise, accentuating the movement in stocks. Oversold conditions result in a setup for a short squeeze, where both investors are buying oversold conditions AND Market Markets are re-hedging their positions by buying as the stock price rises. The result is a pop higher in the stock.

Source: SqueezeMetrics

Gamma exposure (GEX); refers to the sensitivity of existing option contracts to changes in the underlying price. Like with DPI, substantial imbalances can occur between market-makers’ call- and put-option exposures, and when those imbalances occur, the effect of their hedges can either accelerate price swings (like a squeeze) or stifle movement entirely.

We have developed a novel way to quantify this exposure and the direction of hedging that occurs in the event of n% price moves. The effect of this insight on our forecasting has been profound.

I will post more on this topic to come in the future. Please subscribe to be updated when I post this.

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Author: Trader Court

CPA first, pivoted to python programmer focused on data science which I apply to my own stock and options trading.

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