The strategy trades stocks based on gamma hedging and leveraged ETF rebalancing pressures. Stocks are ranked and sorted into deciles, with long positions in the top decile and short positions in the bottom.
ASSET CLASS: stocks | REGION: United States | FREQUENCY:
Intraday | MARKET: equities | KEYWORD: Price, Leverage
I. STRATEGY IN A NUTSHELL
Target U.S. stocks in leveraged ETFs with option data. Compute gamma hedging pressure and ETF rebalancing pressure, rank stocks, and trade top decile long / bottom decile short. Intraday, value-weighted portfolio.
II. ECONOMIC RATIONALE
Price pressure arises from delta-hedging by option market makers and leveraged ETF rebalancing. Both forces create predictable stock movements, which the strategy captures by trading stocks with the highest and lowest mechanical pressures.
III. SOURCE PAPER
The Role of Leveraged ETFs and Option Market Imbalances on End-of-Day Price Dynamics [Click to Open PDF]
Andrea Barbon, University of St. Gallen and Swiss Finance Institute; Heiner Beckmeyer, University of Münster; Andrea Buraschi, Imperial College Business School and CEPR; Mathis Moerke, University of St. Gallen
<Abstract>
Rebalancing of leveraged ETFs (LETFs) and delta-hedging of equity options by intermediaries are two distinct and economically significant sources of liquidity demands. We show that they induce end-of-day momentum and mean-reversion in returns. While gamma effects are persistent throughout our sample, LETFs effects have decreased over time. We empirically study these effects and their potential drivers. We find that LETF flows attract more liquidity provision and their effects on prices are shorter-lived. Intermediaries can strategically decide the timing of their delta-hedging, resulting in less predictable flows. This shows the benefits of information disclosure on market liquidity and price distortion.
IV. BACKTEST PERFORMANCE
| Annualised Return | 6.21% |
| Volatility | 1.98% |
| Beta | N/A |
| Sharpe Ratio | 3.14 |
| Sortino Ratio | N/A |
| Maximum Drawdown | -1.5% |
| Win Rate | N/A |
