December 21, 2022

Desk Commentary - Smorgasbord

On Monday 19 December, the single largest trades (in vega terms) of the entire year transacted.

Ostensibly one player bought on the order of >90,000 units (combined) of ETH 31 March 2023 1800 and 1900 strike calls and sold >90,000 units of ETH 30 Jun 2023 1800 strike calls, in several large blocks (several in excess of 20,000 units per leg).

The trade (if indeed done as a single structure by a sole participant) represented a net sale of over $125,000 of vega. In premium terms, the rolls paid between 4% and 4.5% ETH, for a take home premium of approximately 4000 ETH.

The calendar spread has the hallmarks of a similar roll executed from Dec to Mar, in 1600 strikes, in the month prior.

While it is difficult to discern the exact specifics of the initiating party, the trade, as it can be understood from a cursory assessment, appears to express certain characteristics and objectives:

  1. it can, risk-wise, be characterized as more vega than delta; with a linear sensitivity to spot of between 12-15% of notional, the strategy acts like a short of approximately 12,000 units of ETH, which, while exhibiting some pnl variance, is of a modest scale compared to the ETH collateral that would need to be posted to support this position. By contrast, with the spread exposed to $125k of profitability shift per vol point, a relatively modest move in IVs could easily outweigh the net effects of spot movements.
  2. as such, the trade represents, effectively, a wager on the continued downward trend in volatility (both implied and realized), or, at the very least, a risk-allocation to vol remaining low (even if it does not go lower).
  3. it is also, ostensibly, an expression of preference for what amounts to duration on short vol rather than other potentially salient characteristics (such as carry/roll or shifts in the volatility surface).

The trade would seem to be optimally positioned for lower spot and yet also lower vol; while that correlative outcome has been observed this year (in moments such as the post-merge environment), it may be less likely now to expect vol to continue to remain quiescent if ETH spot were to break to fresh cyclical lows.

Particularly if the trade is held as an overlay against a core long ETH position (which is, in a sense, an exigent requirement given in-kind margining on exchange), the payoff profile of a drop in spot and a rise in vol is relatively unfavorable.

Contrariwise, if spot were to rally, even absent a pop in IVs, a typical overwriter would prefer to be short a nearer expiry. By construction, a strip of n units of options of uniform time to expiry t and strike k will, perforce, generate more premium than a single k-strike option of time to expiry n*t. In this case, given the relatively flat March-June IV-spread and the fairly steep decline in IVs from March to January, buying March to sell June is, by some metrics, optically unattractive. Shorts in March would, all else equal, decay faster and, in this particular case, benefit from the rolldown in vol at the 10 delta point from 72.5 to 68 (mids) over a 30-day window in a steady state. There is, on the other hand, a comparative paucity of rolldown between June and March, and therefore, opening a fresh $125k vega short at cyclical lows in vol appears to be, at its simplest, a higher-conviction play that IVs have limited upside over the next six months.

Written By

Gordan Grant

Managing Director, Trading and Sales


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