Category: Market

Evergrande is navigating through what is termed as the largest restructuring in the history of China. However, critical decisions concerning its offshore debt overhaul have been delayed till October, leaving the process in a state of uncertainty.

Evergrande sits squarely in the centre of a credit crisis affecting China’s property market and has repercussions on the overall growth of the world’s second-largest economy.

The detained individuals, as per Bloomberg, are part of Evergrande Financial Wealth Management Co., an entity fully owned by China Evergrande Group. Located in Shenzhen, this subsidiary was set up in 2015 and has been managed by Du Liang, although it remains unconfirmed if he is among those detained.

The detainments come against a backdrop of considerable financial chaos. In 2022, the beleaguered firm was unable to honour payments amounting to 40 billion yuan ($5.6 billion) for its wealth management products. This triggered nationwide protests and intensified the scrutiny from Beijing, as the firm had drawn funding from over 70,000 investors, including its own employees, as per Bloomberg.

The police have announced that their probe into the financial arm of Evergrande is still active. Investors have been urged to assist in the investigation by filing online complaints and providing relevant information.

China’s government has taken charge of Evergrande’s insurance division. Evergrande Life Assurance Co. will now be managed by state-supported Hai Gang Life, as announced by the National Administration of Financial Regulation on September 15.

(With Bloomberg inputs)

Updated: 17 Sep 2023, 07:03 AM IST

The report to which I refer, recently published by Morningstar, finds that 57% of actively managed funds and ETFs beat their benchmarks in the first half of 2023. Some specific style categories did especially well, furthermore: Morningstar calculates that 74.7% of funds/ETFs in the “U.S. Small Blend” category—nearly three out of four, in other words—beat their benchmarks. These percentages are far higher than what we have become used to over the years.

The true picture is a lot less rosy than what this recent report suggests, however. That’s not because Morningstar’s calculations aren’t accurate. But if one group of active managers is beating the market, then it must be the case that another group is lagging. And once transaction costs are taken into account, the average market-weighted return of all active managers must—of necessity—be below the return of the market as a whole.

So it’s not the case that the market has become easier to beat.

This in essence is the argument advanced in a seminal article in the January/February 1991 issue of the Financial Analysts Journal by William Sharpe, the 1990 Nobel laureate in economics. In the article, “The Arithmetic of Active Management,” Sharpe showed that active managers, on average, must lag broad market indexes. He furthermore showed that this conclusion depends “only on the laws of addition, subtraction, multiplication and division. Nothing else is required.”

Sharpe’s analysis counters the many arguments that many are making about why so many funds and ETFs have beaten the market so far this year. One is that because index funds have come to represent such a large share of all mutual funds, the stock market has become less efficient—and therefore more easily beaten. Another argument is that managers are smarter and more sophisticated than they were in the past. Still others assert that artificial intelligence is enabling everyone who bothers to beat the market.

Sharpe’s arithmetic-based argument does allow for this or that individual manager beating the market, especially over the short term. But for every active manager who comes out ahead, of necessity another active manager must be lagging the market. That’s because beating the market is a zero-sum game before transaction costs, and a negative-sum game after transaction costs. That’s why, as you can see from the accompanying chart, the percentage of large-cap growth funds beating their benchmarks averages is well below 50%.

Given what I’ve learned from my 40+ years in this business, I doubt many of you will be persuaded by Sharpe’s argument, and will instead continue to believe the odds are in your favor when trying to beat the market. One good solution, which both recognizes your belief and takes Sharpe’s argument to heart, was proposed decades ago by the late Harry Browne, editor of a newsletter called Harry Browne’s Special Reports.

His advice was to create two separate portfolios—one Permanent and one Speculative. The former would contain the bulk of your assets and would be invested in index funds and held for the long term with little or no change. The Speculative portfolio would contain your play money in which you try your hardest to beat the market.

Browne’s advice is shrewd because it recognizes both the arithmetic truth of Sharpe’s argument and the psychological reality that you probably believe you’re above average. Since most of your assets will be in the Permanent portfolio, you’re not risking your retirement financial security by trying to beat the market—and (almost certainly) lagging the market over the long term. But with your Speculative portfolio you will get to indulge that part of your psyche that believes you’re above average.

There will be times, like this year for actively managed mutual funds and ETFs, when your Speculative portfolio will outperform your Permanent one. However, I’m willing to bet that over the long term the latter will come out ahead. But, provided you structure your two portfolios correctly, there’s no harm in trying to prove me wrong.

Mark Hulbert is a regular contributor to MarketWatch. His Hulbert Ratings tracks investment newsletters that pay a flat fee to be audited. He can be reached at [email protected].

Over the past 18 months, activity in the 0DTE options market has hit record after record, with the most recent one arriving during August, when 0DTE options tied to the S&P 500 accounted for half of all average daily trading volume in the complex, according to Cboe, the largest U.S. options exchange operator.

What’s more, since the beginning of 2023, they have accounted for 43% of average daily volume, up from 36% in 2022, and just 5% in 2016.

Their growing popularity has already inspired the first in what’s expected to be a trio of 0DTE-focused ETFs, which started trading on Thursday. European exchanges have also tried to get in on the action by introducing daily expirations for options tied to the Euro Stoxx 50
FSTX00,
+1.67%,
one of the most popular European equity benchmarks.

See: First ETF to trade zero-day options makes its market debut. Two more are in the works.

Despite all the hype surrounding 0DTE, there are a lot of misconceptions surrounding how they work, what’s driving the boom and the potential risks that could be associated with these products. Here’s a rundown of what we know, and what we don’t.

What’s a 0DTE?

Simply, a 0DTE option is an option contract with 24 hours or less until it expires.

The short lifespan of these products means they are relatively cheap to purchase. This is because the probability of them paying off is low relative to options with more time left on the clock. Some have likened them to lottery tickets, but Cboe and CME Group have told MarketWatch that these products are intended to give investors the power to tactically hedge their portfolios against economic data like Wednesday’s U.S. August consumer-price index report.

Options contracts give investors the right, but not the obligation, to buy or sell a stock, currency or other asset at a given price before a set expiration date. Contracts linked to the S&P 500 index are typically settled in cash, meaning investors holding “in the money” options can exercise them for a cash payout, or sell them for a profit.

What are they used for?

Much attention has been paid to traders using 0DTEs like “lottery tickets,” pouring money into high-risk bets where they either lose everything or reap massive returns, sometimes in the space of an hour or less, as The Wall Street Journal recently reported.

Derivative experts say this extreme volatility is why retail traders and nonprofessionals should approach with caution. Of course, this lopsided risk profile has been akin to catnip for speculators, who congregate on Reddit and Discord, platforms where small-time investors swap tips and share stories about mammoth gains and losses.

While their utility for gambling on short-term market swings has captured the attention of the financial press, Cboe and its main rival, CME Group, maintain that the products are mostly being used for more mundane purposes like hedging larger stock portfolios.

“Most traders are taking a very systematic approach to trading SPX 0DTE,” said Jonathan Zaionz, senior derivatives analyst at Cboe, in a recent report.

Retail vs. institutional: who’s driving the 0DTE boom?

Despite their growing popularity, there is some confusion about which class of investors is driving all this activity. According to Cboe, 0DTEs are averaging $500 billion in notional value traded a day in 2023 in the S&P 500 complex alone. Some have put the total average notional volume in 0DTE at around $1 trillion.

Brent Kochuba, founder of Spotgamma, an options market analytics service, has said these numbers are simply too large to be driven by mostly retail flow. Others say they haven’t gotten a straight answer from the exchanges.

“We’re still trying to get to the bottom of who is doing this stuff. We’re getting conflicting messages from the exchanges,” said Larry Tabb, head of market structure research at Bloomberg Intelligence, in a phone interview.

“Cboe said 90% of the flow is coming through retail channels. But that doesn’t necessarily mean that you and I are buying all these options. It could be RIAs or small hedge funds,” Tabb said.

A representative for Cboe didn’t reply to a question from MarketWatch asking for a breakdown of trading flow by investor type. But Zaionz says growth is being driven by both small-time and professional traders.

“Volume growth has been coming from diverse types of investors. From large institutions, to midsize hedge funds to small retail traders, volumes have been increasing across the board,” he said in a report.

What inspired the 0DTE boom?

Traders have been using strategies revolving around 0DTEs for years. But they started to see wider appeal in 2022 after Cboe and its main competitor, CME Group, introduced weekly S&P 500 options expiring on Tuesdays and Thursdays, enabling traders to trade 0DTE every day of the week.

This was the culmination of a shift toward offering more short-dated options that began in 2005 when Cboe introduced its first weekly S&P 500 contracts expiring every Friday. They later expanded this to every Monday and Wednesday in the second half of 2016.

It is also worth noting that popularity of 0DTEs is part of a broader postpandemic surge in speculative trading. During the meme-stock frenzy of 2021, trading in single-name options including contracts on Tesla Inc.
TSLA,
+1.39%,
GameStop Corp.
GME,
+2.75%
and AMC Corp.
AMC,
-2.18%
drove much of the growth in options trading. But more recently, the momentum has shifted back to index options.

To be sure, volume is growing across the entire U.S. listed options space. Options Clearing Corp., the main clearinghouse for U.S. options, show the pace of growth in overall U.S. listed options trading has accelerated to 24% annualized since 2019.

Are 0DTEs a threat to stock-market stability?

Some options-market experts and academics have blamed 0DTEs for making the U.S. stock market more volatile, a notion that Cboe and CME have vigorously disputed. Others contend that they could trigger a blowup akin to the “Volmageddon” incident from February 2018.

Much of this speculation centers on the potential impact of option market makers needing to hedge their exposure to options that can go from worthless to extremely valuable in the span of hours, if not minutes.

A team of researchers at the University of Utah said it found a relationship between elevated 0DTE volume and exaggerated intraday market swings in a study released in 2023.

Meanwhile, Kochuba and other options-market experts have told MarketWatch that it is reasonable to be concerned that 0DTEs could exacerbate a shock during an extreme market event like the volatility seen during the advent of the COVID-19 pandemic in March 2020.

Some on Wall Street have already blamed 0DTEs for more modest bouts of volatility. One notable example occurred on Aug. 15, when the S&P 500 dropped roughly 0.4% during a 20-minute period shortly before markets closed, seemingly out of nowhere.

Goldman Sachs Group analysts blamed 0DTEs for triggering the move. But analysts at both Cboe and Bank of America have disputed this. In a recent report, Mandy Xu, head of derivatives market intelligence at Cboe, said the exchange’s data simply don’t support this.

See: Wall Street blamed zero-day option traders for a sudden stock-market selloff. But a BofA team says they got it wrong.

Still, debates like these are a testament to the unproven nature of 0DTEs. For now, Kochuba said he expects they could continue to be blamed when markets move suddenly with little explanation.

Whether they deserve to be, or not, is another matter entirely.