US equities have zoomed to another banner year, but going by the derivatives market, there may not be much left in the tank.
Options bets on the S&P 500 Index’s level in late December are clustering near 7,000, a round-number milestone that would put the index up 19% in 2025. But that’s just 2.5% from Thursday’s close of 6,822.34, with two months left to go.
While Wall Street remains generally bullish about the prospects for US stocks, there are legitimate reasons for caution. Federal Reserve Chair Jerome Powell said a third interest-rate cut is far from assured. And results from tech behemoths raised concern about spending on artificial intelligence.
There are signs that the economy is slowing and cracks are forming in the riskier parts of the credit market, calling into question the health of the American consumer. A handful of stocks are responsible for the bulk of the index’s gains, an alarming development should those heavyweights falter.
And while some strategists have started dialing down their bullishness after Powell’s comments on Wednesday — even though the final two months of the year are generally seasonally strong — there is another, more pedestrian explanation for the bets crowding where they are: investors tend to load up near big, round numbers.
“The 7,000 strike price is a very popular psychological level,” said Joseph Ferrara, an investment strategist at Gateway Investment Advisors. In options parlance, a strike is the level a trader can buy or sell the underlying asset as of the expiry date.
“A round strike is just going to get more attention,” said Chris Murphy, co-head of derivatives strategy at Susquehanna International Group.
Then there are the more abstruse reasons, owing to the complexities and vagaries of the options market. One is a type of equity financing trade known as a box spread that often uses index options. Murphy attributes around half the open interest at the 7,000 level to such “financing plays.”
Then, there are what’s known in the industry as the call-selling “whales,” notably, JPMorgan Asset Management, which has a large number of call-selling funds. One of them, the JPMorgan Hedged Equity Fund, has a wager that the S&P 500 won’t end the year past 7,000. Such funds gives away upside to buy insurance against a market drop. A host of asset managers now systematically sell calls, which can help anchor the market at certain levels.
Regardless of the reasons, Murphy suggests investors who have missed out on some of the gains in the AI darlings consider single-stock options rather than making bets on the broader index. For portfolio managers in the unenviable position of chasing the retail-driven AI surge, calls on individual names represent a more efficient tool than index options, he said.
“The S&P has not been as explosive as single names,” Murphy said. “Long story short, retail has been all in on AI, institutional investors have been a little more cautious and skeptical of the rally, so it’s something of a no-brainer for them to buy upside in Mag7 names.”
Discover the latest Business News, Sensex, and Nifty updates. Obtain Personal Finance insights, tax queries, and expert opinions on Moneycontrol or download the Moneycontrol App to stay updated!
