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Asset Servicing | January 15, 2025

OPTIONS QUARTERLY COMMENTARY Q4 2024

U.S. equities maintained their positive momentum in Q4, rounding out a year of solid performance.  Gains were driven by strong economic and earnings growth, interest rate cuts, and Trump’s victory in the U.S. presidential election. Investor optimism faded somewhat in December, due to inflationary concerns over Trump’s proposed tariff policies, whilst hawkish remarks at the December FOMC meeting triggered an equity selloff. The (SPX) ultimately closed at 5881.63 (+ 2.06% vs Q3 24) and (+23.3% vs 2024) and the CBOE Volatility Index (VIX) closed at 17.35 (+3.71% vs Q3 24). 

 

Source: Bloomberg

 

An increased demand for hedging heading into the U.S. election meant SPX implied volatility was trading at a significant premium to realized volatility.  During this time, the put- call ratio on the VIX index was at its highest level since 2020, and volatility skew reached a 99th percentile high. While NTSI saw a large amount of outright put and put spread buying for hedging purposes, some clients chose to take advantage of the elevated risk premium by selling volatility into the election. Following the fast and decisive election result, the S&P rallied due to investor optimism over the future growth of the U.S. economy under the Trump administration, with expected de-regulation and tax cuts.  

As a response to the Fed indicating they would dial back rate cuts in 2025 during the December 18th meeting, the VIX spiked by 74%, the second biggest percentage in history, closing at 27.6. According to CBOE, this spike was notable due to how much it outperformed the sell-off in the SPX index with equity spot/vol beta (the difference between realized and implied volatility) surging to a high of 3.3 as shown below, even higher than during the August 5th volatility shock. Following these notable volatility events, the CBOE has thus highlighted a potential shift in the equity volatility landscape. SPX skew has steepened because of options pricing in more downside risk as a result of higher realized volatility during market sell offs versus rallies. This marks a return to ‘normalcy’ from the unusual pattern we have seen the last 3 years, where on average higher realized volatility is seen on up days, the inverse of what has been true historically. We saw this pattern normalize in the second half of 2024, the first time since 2021.  

 

Source: CBOE

Source: CBOE

 

Options Trends in 2024

We are continuing to see growth across the U.S. options market with an 8.6% increase in total option average daily volume (ADV) and a 34.4% increase in ADV of notional value of notional value (CBOE). Growth in options-based ETF strategies has also been notable, and according to JP Morgan they now amount to $140bn AUM, with call overwriting funds selling short dated calls contributing to around 60% of this total. Zero Day to Expiry options (0DTE) also continued to grow in popularity in 2024. For the first time, 0DTE SPX options surpassed all other expirations combined in Q4 averaging more than 1.5 million contracts, making up 51% of total SPX options volume (Bloomberg). Mandy Xu, CBOE’s head of derivatives market intelligence has attributed this growth to higher intraday volatility, an increase in macro catalysts, as well as an increase in retail investors trading index options.

Looking ahead to 2025

As we head into 2025, we can expect to see continued periods of volatility, particularly around the inauguration of Trump and further down the line, with uncertainty around proposed tariff policies. As noted by Bloomberg, the S&P 500 has only on two occasions returned between 5 -10% the year after an election since 1953, with extreme gains or losses more common. They also note that in the last 60+ years the S&P has only risen once when a Republican took over from a Democrat, which interestingly was during Trump’s first term.   

Analysts at JP Morgan have predicted the VIX will trade on average in the teens expecting fundamental and technical factors to outweigh macro-economic risk. They note that U.S. volatility will be supply driven due to the prevalence of option selling ETFs and 0DTE strategies, further keeping volatility muted. That said, they expect vol of vol to be elevated, indicating we can perhaps expect to see an increased number of intraday vol spikes similar to the ones we witnessed in 2024.   

Options involve risk and are not suitable for all investors. Call for a copy of the Options Clearing Corporation (“OCC”) Disclosure Document entitled "Characteristics and Risks of Standardized Options." Please read it carefully before investing.

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