The surprisingly resilient equity market is invigorating a time-honored options strategy, driving it to the best start of a year in two decades.
The Cboe S&P 500 PutWrite Index (ticker PUT), which sells at-the-money bearish options on the benchmark against cash reserves, has climbed in all but one of the past 17 sessions, scoring a win rate not seen in four years. Up more than 7% since January, the strategy has notched a gain bigger than any time since 1999 this far into a year.
The trade has worked in part because the market has defied doomsayers, with its increasing tendency to go up echoing the last bull market.
Thanks to widespread defensive positioning among investors, the market has become less vulnerable to headwinds ranging from central bank tightening to earnings downgrades and multiple failures at regional lenders.
With stocks having refused to fall in any big way, put options often expire worthless, letting anyone who sold them pocket the premium.
The “spot index simply can not sell off with any magnitude with so much bearish sentiment and under-positioning,” Nomura Securities International’s cross-asset strategist Charlie McElligott wrote in a note.
The success is in stark contrast from the 2022 bear market, when the same trade posted its worst year since the global financial crisis. It marks a powerful comeback for a strategy that lost money in only one year during the previous decade.
The rebound has been helped by a market that’s been more inclined to rise than fall. During the past 20 sessions, the S&P 500 climbed 65% of the time — a frequency of upward moves that before last week was last seen in November 2021, when the market was in a bull run that propelled it 27% higher that year.
“The stock market is beginning to ‘feel like a bull market,’” said Tom Lee, co-founder at Fundstrat Global Advisors LLC. He views the S&P 500’s October trough as the start of a new cycle.
Lee’s optimistic view put him in the minority on Wall Street. From Morgan Stanley’s Mike Wilson to JPMorgan Chase & Co.’s Marko Kolanovic, top-ranked strategists have warned clients that the worst is yet to come.
Caution persists among big money managers, too. While net equity flows from hedge funds have been “modestly positive” over the past month, their leverage — a measure of risk appetite — stayed below the average, particularly when ranked against their own history, according to JPMorgan’s prime brokerage unit.
“We’ve started to see more signs that flows are turning more constructive, although for many metrics, it’s mostly a shift away from more extreme bearishness to neutral,” JPMorgan’s team including John Schlegel wrote in a note last week. “So far, we have yet to see many signs of outright bullishness.”
Stocks refused to yield despite a cacophony of bad news in March. In addition to another rate increase from the Federal Reserve, several regionals lenders collapsed and first-quarter earnings season was forecast to be the worst since the height of the pandemic crisis.
The S&P 500 has climbed more than 7% from its March low, hovering within 1% of its 2023 peak.
To Tony Pasquariello, Goldman Sachs Group Inc.’s head of hedge fund coverage, all the defensive positioning likely put a floor under the market. To understand equities’ buoyancy, he says, one has to go back and see how bad sentiment was. One month ago, net equity exposure among hedge funds tracked by the firm stood in the bottom one percentile of a three-year range.
“Unlike past periods of notable stress, there has been no forced selling by the levered community,” Pasquariello wrote in a note over the weekend. “If anything, positioning has become a local tailwind for the market, and higher prices have brought more demand.”
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