Market Update: 9 Jan 2022
Once again, views from our 2021 year-end piece came earlier than expected as equity and crypto markets tumbled on the back of Fed minutes released on Wednesday, 5 January.
From our 2021 piece (https://docsend.com/view/g7nx3g54tyante7j): “…inflation risk… will compel them (the Fed) and other global central banks to tighten faster, harder and most importantly with resolve.”
The minutes confirmed a strong hawkish bias with markets now pricing in a 90% chance of a Fed hike in March (Chart 1). We are seeing the same tightening bias all over the world (Chart 2).
BTC has since traded to a 40,505 low (-14%) and ETH touched the 3,000 level (-22%) before finding some support.
The popular Crypto Fear & Greed Index has been indicating “extreme fear” at these levels (Chart 3) However, the vol markets have been telling a completely different story.
We did get a spike in front-end vols (BTC +20% to 80% and ETH +30% to 90%) which was what we wanted given our long gamma position (short-dated options).
Unfortunately, this was short-lived as vols have been slammed back down to low pre-minutes levels (Chart 4 & 5). The vol markets do not seem to be reflecting “extreme fear”. In fact, over Friday and the weekend, our vol desk saw large call buying interest especially in both BTC and ETH. Our spot flow desk has also been seeing interest to buy the dip in major alts.
We’ve taken profit on a large part of our long gamma position. We are now flat BTC gamma but remain long gamma in ETH and the alts.
For the first time in awhile we’ve actually turned long vega (longer-dated options). We reckon actual “extreme fear” will kick in below 40,000 in BTC or below 3,000 in ETH. We intend to keep deltas (spot position) very short if these pivot levels break.
Conversely, if the market has based at these levels, we might get that short squeeze we’ve been waiting so patiently for. Both scenarios should see vols tick higher.
In the bigger picture, it seems likely that the all-time-highs in BTC and ETH will remain capped for most of 2022 as a result of central bank tightening. So if you are bullish in the short-term, buying call spreads is a decent trade with risk reversals trading at very low levels (calls cheaper than puts — Chart 6).