Options (gamma) walls 101- what is a gamma wall? Well it is a long options position above or below the market which puts a cap or a floor on the market. Let's use the current case. There is a wall at 4800 on the SPX that expires on Friday.
How does the wall work? Very short dated otm options have a low delta when they go itm their delta jumps quickly to 1. That means dynamic hedgers suddenly have a ton of SPX to sell which offsets demand and caps the stock until the hedgers are full up. Then the market continues
Gamma walls happen every options expiration and often at round numbers like today's year end 4800 strike. Of course fundamentals do matter and if the market chews through the supply then not only can it go higher but the wall is now a floor for prices as if the option goes OTM
The hedgers are now buyers. What else happens to these options. Remember a gamma wall is created by a long market maker position. Someone is on the other side. They may choose to cover their short call and roll up and out. That eliminates the gamma wall
How do we know if a gamma wall exists. Well it's tricky but most non delta hedgers behave the same way. They sell upside calls and buy downside puts when they open a new trade. So generally gamma walls are located at new highs. Like today. But path matters as I said
Gamma "floors" can exist from old OTM calls become ITM over time. How else can we know. Well going down the rabbit hole of data every trade that happens is stamped open or close. Also every trade can be tagged with whether it happened on the bid side or if on the offer.
Further it can be tagged if an order that happened at a price that was the offer immediately becomes the bid. Any order tagged as happening on the bid or at what became the immediate bid and was opening can be assumed to be an end client trade and not one that will be hedged
So lots of wise guys track all this data and determine the walls. That's pretty much it. A wall can be climbed by a strong market and become a floor. A wall can resist a weak market. A wall can be rolled. And a wall is strongest near expiration
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