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The Pinning Effect

The 'pinning effect' refers to a market phenomenon where the price of the underlying asset gravitates towards a specific strike prices or stays within a narrow range. This effect is usually associated with high gamma levels in the market and is a result of delta hedging.

The increase in market gamma prompts more active dealer hedging, compelling dealers to buy or sell the underlying asset to rebalance their books and minimize risk. This activity drives the underlying asset back towards a specific strike or zone.

For example, in a positive gamma market where dealers are net long gamma, dealers sell the underlying asset above the pin level and buy below it, resulting in mean reversion activity around the pin.

The pinning effect is particularly pronounced in a positive gamma market and the last week of monthly Options expiration (OPEX) where higher gamma strikes or balanced gamma strikes have the most influence.

The strike with the strongest magnetic effect is known as the Absolute Gamma Strike (ABS). This strike may not always be in play; however, it is generally active during the final week of monthly options expiration, often resulting in a couple pinned trades within that week.

You can determine potential 'pins' by analyzing gamma charts or by simply referring to our Butterfly Idea table in the Daily Market Report.

Below is an example of the SPX gamma distribution during the week of OPEX. You can see how pronounced that strike is.

This pinning effect isn't a guaranteed outcome, and it might not occur in every situation or in every market. It depends on the dynamics of options, the strategies of market participants, and various market conditions. However, there's is substantial edge in playing the reversion to, centering a Butterfly at or structuring Iron Condors around these strikes.


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