Shares of AMC Entertainment Holdings ran to a record high last wk in a rally that highlighted how an options market dynamic known as a ‘gamma‘ squeeze can significantly change a stocks price.
AMC’s rally was partly fueled by heavy trading of equity options. These financial derivatives give buyers the right to buy or sell shares at a fixed price in the future, depending on where the stock price is.
As the share price moves in the normal course of trading, the value of these derivatives fluctuates with the changing probability of the options buyer exerting that right.
These changes are captured through a range of mathematical calculations, 1 traders call a gamma.
Anyone who sells options is “short gamma.” Gamma is highest when the strike price of the options sold is very close to that of the underlying stock.
Market makers who sell options may have to deliver the underlying stock, so they risk heavy losses if they have to pay more than they like.
To hedge exposure, traders often buy or sell shares of the underlying stock.
In the case of AMC, lots and lots of call options buyers left market makers with a massive short gamma position that grew as the share price inched closer to the high strike prices held by Bullish investors.
As the share price rocketed, market makers bought AMC shares to offset their exposure, adding more fuel to the rally. That is a gamma squeeze.
Have a healthy week, Keep the Faith!