Top 5 Questions Asked About 0DTE Options...

More 0DTE Q&A, More Evidence of Early Adopter Demand

Per Bank of America... interest in their February note on the rise of 0DTE options was particularly strong. Frequently asked questions included...

1. What else does the intraday trade-level data tell us about how 0DTEs are used?

2. Is the directional end-user of SPX 0DTEs primarily retail or institutional or both?

3. Is there evidence of SPX 0DTE options impacting the underlying equity market?

4. How rich are SPX 0DTE options in practice? Is there alpha in selling them, and how?

5. Has the rise of 0DTE options made the VIX (based on 1m options) less relevant?

Bank of America provides some comments related to the first and third questions above, with the intention of following up on the others "as their analysis progresses".

Unlike for longer-dated SPX options, which exhibit a well-known bias towards put volume vs. call volume, 0DTE options are unique in being nearly evenly split between puts & calls (Exhibit 8). This could indicate less downside hedging with 0DTEs, and/or more upside chasing, and/or more strangle / fly / condor (or even combo) trading. At a minimum, it seems to suggest a different user base and/or use cases for 0DTEs.

Looking at the AutoExecution (which accounts for ~90% of all single-leg 0DTE volume) and Multi-Leg AutoExecution categories (which accounts for ~80% of all multi-leg 0DTE volume), we find that SPX 0DTE single-leg volume trades closer to "at-the-money" than multi-leg volume (Exhibit 9). This could be consistent with some directional end-users buying 0DTE puts/calls to chase intraday momentum and/or mean reversion, with others selling out-of-the-money put spreads & call spreads for income generation.

One approach here is to assess whether there have been any structural changes in the intraday mean reversion or momentum of US equities since SPX 0DTE volumes picked up last year. There are of course many forces outside options activity that influence intraday momentum, not to mention many frequencies on which to measure such a phenomenon on an intraday basis. Nevertheless, one might expect a market in which directional end-users are overwhelmingly short SPX 0DTE options to feature strong evidence of intraday mean reversion (due to market makers being long 0-day gamma, hence buying intraday dips/selling rallies through their delta-hedging activity).

To this end, we re-visit in Exhibits 10 & 11 the performance of simple S&P 500 trend-following strategies operating on different frequencies. Interestingly, while there was not a major structural break in the long-run performance of basic intraday trend in 2022 (see Exhibit 10), such strategies did inflect higher after the listing of Tuesday/Thursday expiry options in Apr/May of 2022 (see Exhibit 11). This would be broadly consistent with directional end-users being *net long* SPX 0DTE options (thus leaving market makers *short* gamma and *exacerbating* intraday equity moves), though we note that intraday trend performance has stabilized some in recent months, as the 0DTE space has likely absorbed the initial demand impulse but has also drawn in more sellers.

Unlike the '21 frenzy, return of the retail trader not (yet) in single-stock options...

Retail participation in the US stock market seems to have resurged in the last couple of months, their flows into US equities by some measures at record highs.

The large retail inflows & the strong performance of names favored by retail investors has brought back memories of the retail frenzy of late 2020-early 2021. That episode was characterized by a massive jump in single-stock options trading, particularly call buying in small size, and coincided with exploding interest in options trading in online forums & social media platforms. For several retail-favorite names, call option flows and the "weaponization of gamma" became the main driver of the stock's price action and created unprecedented levels of upside volatility (and fragility).

Today, however, proxies of retail speculation through single-stock options suggest much less of such activity (so far) than in the peak of the 2020-2021 retail frenzy. We see it in the muted small-lot call buying (Exhibits 12-13); the falling demand for call options on stocks with high retail flows (Exhibit 15); how far "meme" call option volumes remain from 2021 highs (Exhibit 16); and, likely related to the prior three points, the lack of upside fragility that caused so much pain to shorts the last time around (Exhibit 17).

Perhaps the lack of upward momentum in US equities since last year has hurt popular call-buying strategies and kept retail investors from re-loading on levered upside. Or perhaps their focus has moved to SPX 0-DTE options - but given retail investors' proven potential to impact financial assets, we advise continuing to watch for their footprints in options markets.