The gamma squeeze

0:06Pushkin. Sometimes it feels like the only stock that matters in the whole world is the mighty NVIDIA. It's really important to understand what makes this stock go up and down and why. And there's been some funny business going on recently, particularly in the form of, scary voice here, a gamma squeeze. Options markets are basically making a crazy hype-y stock act even more hype-y. So today on the show, we're going to be asking, is hype-y even a word? And more importantly, what's going on with this options stock market feedback loop? This is Unhedged, the markets and finance podcast from the Financial Times and Pushkin.

0:50I'm Katie Martin, a markets columnist at the Financial Times in London. And I'm joined today for the very first time by the very lovely George Steer, who is a markets reporter here also in London, but fresh from a stint in New York. George, which is better, New York or London? Good question. I'm going to say New York. What? You're fired. It's more expensive, but yeah. Controversial stuff there. Okay, so give us a sense, right? Like I say, you're just back from the big Apple and Nvidia is the only stock that anybody can talk about. Just how big of a talking point is this among professional fund managers now?

1:28I can't move for people talking about Nvidia. It's become Wall Street's darling stock for sure. It's up something like 150 % since the start of the year. It's quintupled or more than quintupled since the start of 2023. It's responsible for something like a third of the S &P 500's gains this year alone. And it's incredibly volatile. So a lot of people can make a lot of money betting on it every single day. Yeah, it's all everyone's talking about. I mean, it's mad, isn't it? And like, obviously, it's part of this big AI chips kind of boom, but just the size of this company is nuts, right? So it's bigger than JP Morgan, plus Berkshire Hathaway, plus Meta combined.

2:09Am I right in that? Yep. Yesterday, I think it was valued at just over$3 trillion. So for a moment, at least, it became more valuable than Apple, just behind Microsoft in second place. This thing has legs. So look, one of the reasons why this stock is up so massively is because the company's doing all sorts of well at the moment. Like every time it puts earnings numbers, it's like, oh, that number that you had in mind, you know, double it. Like they just cannot stop making money at the moment. What sort of scale are we talking about? I think it's first quarter results, which had announced last month, revenues were up 262%, something like that.

2:49I was speaking to an analyst the other day who said he's never come across a company that has so consistently beaten and raised, beaten and raised, beaten and raised. Yeah, it's unstoppable. And anyone who kind of questions whether it's overvalued, one easy response to that is that, no, it's making a lot of money doing what it's doing. Well, that's the thing. Like the stock is up a lot, but it's not up as much as the revenue. So there's a decent argument, crazy as it sounds, that this thing is actually undervalued. Yeah. It's valued at just over 40 times earnings for the next 12 months, which isn't crazy and is below where it was valued a year ago during the first kind of AI hype wave.

3:25So it's expensive, but not stupidly so. So on top of that, you do have some slightly funny business going on with this stock, right? which you were writing about the other day. And the sort of fancy pants, clever word for this is a gamma squeeze, which makes it all sound like super, super clever. Break it down for us a bit. This all relates to the options market, right? Yeah. So NVIDIA has a huge, huge options market. Options being kind of little derivative bets that you can make on the direction of its share price. So if you're an investor, you can say, I think this thing's going up. I'm not going to buy the stock itself, but I'm going to buy a little contract that will pay me money if the stock goes up, which is kind of, you know, the same bet is still a bet on NVIDIA, but it is just a little bit different.

4:09It's cheaper and it provides more leverage. So you can see the appeal. Yeah. People have been buying a hell of a lot of call options on NVIDIA, betting that the share price will rise. So in buying these call options, the market makers on the other side of the trade. So banks to you and me, right? Yeah. They don't want to take a punt on the direction of the stock in case they're wrong. So to hedge their position when they're selling these call options, they have to buy the underlying stock, they have to buy shares in Nvidia. So that drives the share price up. And it kind of kicks off this kind of feedback loop.

4:42Yeah, the self fulfilling cycle of ever rising prices. And that's known as a gamma squeeze in the jargon. Yeah. And it makes you sound clever on chat boards if you talk about it as a gamma squeeze. So this is not a new phenomenon, right? But it just tends to grab headlines and become something that people start kind of raising their eyebrows at when it becomes really concentrated. So there was a slight element possibly of gamma squeezing that went on back in 2021 when GameStop first went totally loco. And then I remember writing about it in 2020 when we reported that SoftBank, big kind of Japanese kind of venture capital-y private equity type conglomerate, was buying so many options on the Nasdaq, betting that the Nasdaq stocks index would go up, that again, a similar thing was happening.

5:35So banks were having to buy more exposure to the Nasdaq to try and hedge out what was going on from the purchases of these options. And so it just kind of became an unstoppable wave of buying that came from all directions. So what are people saying to you about how big of a component in NVIDIA's recent stock moves is accounted for by this? It's hard to attribute X amount of the rally to the gamma squeeze. It's even harder to do so because NVIDIA is such an attractive company. A lot of people are just buying the stock because they think the stock is great. So it's hard to kind of quantify how much the gamma squeeze is pushing the price up.

6:14But it's definitely happening. And you can understand why it's happening because people want to buy these cool options because they're so sure that the stock is going to keep rising. NVIDIA has become a kind of perfect momentum stock. People buy it, anticipating that it will keep rising. And it's worked so far. I've been around the block a few more times than you, George. This sounds bad to me. Like a thing going up because everyone else thinks it's going to go up is a bit like crypto-y. It's a bit like just pure momentum. Like, is this dangerous? What are investors saying to you about that? I guess it becomes dangerous once one of NVIDIA's customers, as one of the other magnificent seven companies starts slowing purchases of NVIDIA's chips.

6:59Or NVIDIA at some point will have to say, well, its growth will have to slow at some point, surely. Investor expectations are so high that if it disappoints even a little, that could knock the rally and the gamma squeeze could unravel. And because NVIDIA makes up such a huge part, chunk of the broader S &P 500 index, If NVIDIA wobbles, the entire index will too. But do you think people are betting that the wobble would come from NVIDIA as a company rather than from what's going on in the options market? I mean, certainly what fund managers say to me is, look, we love NVIDIA. You cannot argue with these numbers, but we don't really understand whether this company has what investors call emote, right?

7:40Is there a moat around this company? Does it have absolute dominance over the competition? Or is there another NVIDIA somewhere down the road that could come along and take half of its market share? I don't know. I mean, and no one else knows either. And also, I guess you've got this kind of geopolitically kind of election-y element going on here, whereby who's to say what China is doing on the chips front? Who's to say whether NVIDIA is going to continue to be able to sell its products around the world? How contingent is it on all of the supply chains that China controls? you know, with the kind of US elections coming up.

8:14There's a bunch of things that could go wrong for NVIDIA, but right now they are very much not going wrong. Yeah, they're in a real sweet spot, that's for sure. But they've been in the sweet spot for a while now. Again, since the start of 2023, it's just been up, up, up, up. And I think investors, historically investors have been inclined not to kind of price in bad news or expect bad news with stocks like this. So yeah, there's definitely a chance that when something does go slightly wrong, it doesn't have to go wrong. Growth just has to slow. Things just might have to slow down a bit and we'll see how investors react.

8:53Yeah. But going back to options, this is not quite as simple as just buying stocks, but it's almost as simple as buying stocks, right? It's become a really mainstreamy, retail-y kind of way to get exposure to stock markets. Why are options so hot right now? And what's going on in that space? Zero-day options are kind of so hot right now, yeah, as you put it. They are options contracts that expire on the day that you buy them. So they allow you to take really short-term punts on the direction. Because normally you say, I think this stock is going to do X over a one or three or six month period.

9:33right these things are like that's far too long let's just bet on what it's going to do today exactly this is exploded right yeah and you can kind of see why because if you look back at nvidia's results say whenever they announce results the share price tends to move a lot so ahead of its may earnings results it would make sense to put a zero day option bet on the fact that nvidia might shoot up as it did um and it's a cheap way of doing so so you can see why investors like these things. So that's why that gamma squeezy phenomenon really caught on on the day when it put its results out. There were just so many people betting this thing was going to go up.

10:12I think the options market was pricing in something like an 8.5 % move, which is for Nvidia quite a small move. I think it jumped by about 24 % last year after one of its quarterly earnings results. So if anything, yeah, the options market was slightly tempered this time around. But we're talking serious money here, right? So the rally on the day, what was it? Something like$360 billion? I mean, this is ridiculous. Yeah. I mean, it's worth$3 trillion now. So even a 1 % move adds a lot of cash. Yeah. So normally, I think most fund managers would rather not spend too much time thinking about just one stock.

10:51But this thing is now so big that even a little bit of speculative bets through the options market, a little bit of gamma hedging, a little bit of that sort of squeezing can make it like ridiculously make a difference to the entire market. Yeah. If you hadn't invested in NVIDIA at the start of 23 till now, you would have missed out on a lot of gains, a lot of gains. And you might ask if you're giving cash to a fund manager and they haven't invested in NVIDIA, what the hell are they doing? Because it's making a lot of money. Yeah, it's impossible not to pay attention. Yeah. What's your bet here?

11:28If it all does go horribly wrong, will people be able to point a finger of blame at the options market, or will it be just, this is the company? I don't think you could blame the options market if NVIDIA suddenly sold off on some bad news. I think the options market is a part of the broader stock ecosystem. It's just one way in which people can bet on the direction of a company. So So I think if NVIDIA were to sell off massively, the people that you could blame would be investors who overhyped it in the first place and got carried away to begin with. And then we will be very rude about them on this very podcast right here.

12:05But until that happens, I mean, listeners, keep an eye on weird comings and goings in the options market. George, we're going to be back in a sec with Longshore. I don't really know how Longshore works. Well, you're going to find out.

12:27Okay, now it's time for long short. George, you haven't done this before. Nope. Bear with me. It's your opportunity to go long a thing you love, short a thing you hate. It can be something off the telly. It can be a sport. You can be long or short of anything. Sure. So what is it? I might have to come up with something. Well, there was news this week about this new Texas stock exchange. No one really knows why we need another stock exchange. There are dozens in the US already. So I'll short that. Yeah. So, I mean, it is quite a weird one, this one. It's like a piece of news that kind of dropped out of the sky and left everyone going, did I dream this?

13:04But the deal is, so there's some real kind of Wall Street heavy hitters here, including BlackRock and Citadel Securities. And they're partly at least behind a project to launch this new exchange in Texas. Now, the thing is, we've got perfectly well-functioning exchanges already in the form of, like, you know, the New York Stock Exchange. Although they did glitch this week. Well, they did glitch. But does the world need another listing venue for the US? Why would you list on this thing and not on one of the existing exchanges? I guess the weather is better in Texas, perhaps. Good point. Nice hats.

13:39Nice hats. Good music scene, apparently. Yes. But is the deal, and look, we don't know the full kind of contours of this thing yet, But is the deal that there will be like looser listing requirements and lighter regulation than if you list on the other places? You'd think that that's how they would have to incentivize companies coming over there. Why else would they go? But the restrictions and the listing requirements on certain sections of other US stock exchanges are already quite loose. Yeah, and the rules that are there are there for a reason. Yes. So you're short. I'll short. I'll stick short.

14:15Cool. So I'm going to be long something. I'm going to be long the European Central Bank pulled off a trick today. It cut interest rates, which is kind of in and of itself, not that remarkable. But it's the first time it's done this in about five years. And also it's cutting rates without the cover of the Federal Reserve. So in the US, rates are staying steady. The ECB is cutting. It's very weird to have this kind of disjointed move in rates. So the danger was that they could muck this up, right, and that they could say we're cutting rates and leave the market thinking, okay, they're going to keep cutting.

14:51And this is going to be in the first in a series of loads of cuts. And that could have been quite destabilizing for markets, could have hit the euro, for example. But they seem to have trodden a nice line here. They seem to have reassured the markets. Not that we're one and done. There might be more cuts ahead, but we're going to look at the data. So they've managed to kind of pull off this trick, very unusual manoeuvre from the ECB, but without destabilising markets. So I am long the ECB. The move this week was pretty well, I mean, incredibly well telegraphed. It would have been a huge shock had they not cut.

15:25And Lagarde has been criticised in the past for... The ECB president, right? Christine Lagarde, yeah. Has been criticised in the past for her flimsy communication. That's harsh, but... But people are harsh about her. Yeah, people are harsh about her and unfairly so perhaps. Yeah, the lack of a market reaction today, I guess, speaks to how well Lagarde and the ECB prepared markets for the movement. Okay, we can both be along ECB. Sure, sure. George, it's been a pleasure. We're going to let you come back. Please do. Yeah. Listeners, we will be back in your feed on Tuesday. Not with George, but with someone else.

15:59But we will get George back. Don't worry, don't worry. So tune in then.

16:06Unhedged is produced by Jake Harper and edited by Brian Erstad. Our executive producer is Jacob Goldstein. We had additional help from Topher Forges. Cheryl Brumley is the FT's global head of audio. Special thanks to Laura Clark, Alistair Mackey, Greta Cohn and Natalie Sadler. FT Premium subscribers can get the Unhedged newsletter for free. A 30-day free trial is available to everyone else. Just go to ft.com slash unhedged offer. I'm Katie Martin. Thanks for listening.

16:41We'll be right back.