Potential Market Turbulence as Record $5 Trillion Option Expiry Approaches Amid S&P 500's All-Time High

As the S&P 500 eyes an all-time high, a significant challenge looms with a record-breaking $5.4 trillion option expiry scheduled for Friday. This "triple witching" event, coupled with recent market rallies and quarterly index rebalancing, could unleash volatile moves and increased trading volumes, potentially impacting market dynamics until the year-end.

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The calm ascent of the S&P 500 towards an all-time high is poised for a significant test as a historic option expiry, totaling $5.4 trillion, approaches. Estimated by Rocky Fishman, founder of Asym 500, this massive expiry, known as "triple witching," involves contracts tied to stocks and indexes going off the board on Friday. Such events typically lead to heightened volatility and increased trading volumes as traders adjust their positions, and this one, in particular, could extend its influence into the year-end.

Asym 500 reports that options linked to over 8% of the S&P 500's market capitalization are set to expire, representing the largest share ever. The timing aligns with the quarterly rebalancing of indexes, adding complexity to an already sizable event. Dave Lutz, head of ETFs at JonesTrading, suggests that traders should be prepared for a challenging period, with speculation that the size of this expiry may have suppressed volatility, potentially leading to a reversal post-expiry.

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Despite the S&P 500's seven consecutive weeks of gains, cautionary signals emerge on technical and positioning fronts. Charts indicate overbought levels, and the Cboe Volatility Index's plunge to its lowest level since early 2020 suggests a lack of fear among traders regarding broader market swings.

Option dealers, holding positive gamma before Federal Reserve Chairman Jerome Powell's recent remarks, may have influenced the subdued volatility. Tier1Alpha Research notes that while fourth-quarter expirations are typically larger, this one surpasses the old record by an additional trillion in notional exposure.

Brent Kochuba, founder of options platform SpotGamma, suggests that the recent rally prompted traders to adjust positions ahead of the expiry, potentially mitigating outsized volatility on the expiry day. However, he anticipates increased volatility in the market from now until the end of the year as traders readjust their positions in the aftermath of the triple witching event.

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