05/28/2021 — The FOMO Market

One scared fiduciary emoji!

I learned about FOMO four years ago as friends laughed at my continued ignorance of modern terms, or as I like to call them, lazy abbreviations. I can appreciate this particular shorthand a bit more for its muppet-like goofy sound and its lexical proximity to FOMC (Federal Open Market Committee) — which invites its own missive for another time.

“Fear of missing out” continues to drive the market rally. Two phenomena stand out as reasons why I believe this to be the prime mover of the benchmark indices and not true, long-term optimism.

Every time we bump up against meaningful numbers, market behavior becomes particularly hesitant, even sticky. By meaningful numbers, I mean S&P levels of 4100, 4200 — round numbers. In reality, these numbers have no real financial significance other than a reminder that most of us possess ten fingers and ten toes, thus influencing our choice of a base ten number system. Irregular behavior around these type of levels is nothing new, but their current outsized influence leads me to believe that there are more punters than usual picking convenient numbers at which to get in and out of the market.

People, fearing a missed opportunity, pile-in to buy when indices approach these resistance levels to the downside. The result is a potentially artificial barrier to a true, price evaluation based on long-term investment sentiment. The reverse holds true if not as immediately apparent. Traders looking to exit the market with cash in hand have placed orders — mentally or with their brokerage — to sell at these crucial price points. It’s no surprise that S&P markers such as 4150 and 4200 seem so difficult to break.

The second indicator that something might be amiss appears in the long-tail volatility seen in S&P options. While there exist several variables that determine the value of a given option, with all other things considered equal, as an option approaches expiration (as time passes) it has less time value and should be worth less. And as an option moves farther away from being “in the money” its likelihood of having any value at all at expiration decreases, and again, it should be worth less.

Specifically, S&P puts that are worth price “X” at 11:00 AM with the underlying market at level “Y” should be worth less than X at 2:00 PM with the underlying market higher than Y. This situation can be offset by an increase in implied volatility — the one pricing variable that is not shared by all trading parties. Implied volatility is the independent variable mostly responsible for discrepancies in option prices amongst individual traders.

The aforementioned scenario shouldn’t be considered unusual or out of place in normal market activity. Any number of factors can lead to an increase in implied volatility and thus the price of a series of S&P puts can rise even if they move farther out of the money and time has elapsed. What is a bit unusual is the recent tendency of puts to increase in value as the market approaches 4200 and then lose some of their value, over time, after having returned to a lower level such as 4180. When this process repeats itself the behavior leads me to believe that traders, either human or algorithmic, anticipate an increased likelihood of a selloff as the underlying S&P futures approach one of these rounded market levels.

Perhaps eager put bidders, knowing the propensity for the market to encounter some resistance, are looking to score a quick scalp (buy and sell options without trading the underlying) after analyzing this recurring behavior. Then again maybe the idea is to bid puts as a hedge in preparation of buying the new underlying level (4200 in this example) before the market embarks on another run-up.

Either way, or any way one looks at recent movement, signs abound that people are trading on fear. Fear drives a lot of trading, but usually that fear lies in the downside risk, not the fear of missing out on the upside. This is not to say that the market is incorrect. The market is always correct, because it is the market. However, it appears not to be currently governed by what would be considered traditional investment forces, and it gives pause as to whether or not these record gains would be able to sustain a real market shock — say a surprise interest rate increase.

--

--

--

A running soliloquy covering the life and times of a financial trader. Opinions, insights, commentary, and stories from past and present…served with a healthy dose of irreverence.

Recommended from Medium

How Are Cryptocurrencies Regulated In Hungary?

The co-working space as a platform for a token economy

Warren Buffett and Charlie Munger Continue Their Marketing Campaign for Bitcoin (Indirectly at…

1,000 Followers for In Bitcoin We Trust

Bitcoin’s Volatility: Myth and Reality

The Cashless Society of the future.

Individual privacy and open access for all: A call to action for global blockchain standards…

DuckDAO Goes Cross-Chain with Binance Smart Chain Launch

Get the Medium app

A button that says 'Download on the App Store', and if clicked it will lead you to the iOS App store
A button that says 'Get it on, Google Play', and if clicked it will lead you to the Google Play store
Willie Witten

Willie Witten

Writer, thinker, trader, musician, builder and beer aficionado. Find me at williewitten.com

More from Medium

The fallacy of linear returns

Automating Block Modelling with AI

Time to Bail From Stocks? — 2022 Update

Moonstruck Markets: The effect of lunar cycles on Markets