Typically, before volatility events such as Consumer Price Index (CPI) releases, Non-Farm Payroll (NFP) reports, or Federal Open Market Committee (FOMC) meetings, participants are either actively positioning for these events or minimizing trading activity waiting for the new information. This behavior often results in noticeable patterns in the market two days and one day before the actual event. Here are some historical observations:
Two Days Before Non-Farm Payroll (NFP):
Average Close %: 0.45% (indicating more significant directional movement)
Average High/Low Range: 44.75 (narrower than 1 Day Before, but still shows movement)
Directional Movement: Shows a stronger directional bias with larger percentage changes, indicating a clearer trend.
Volatility: Narrower high/low range, but with a stronger trend indicated by percentage change.
Edge: Align trades with the prevailing trend.
One Day Before Non-Farm Payroll (NFP):
Average Close %: -0.19% (less directional movement)
Average High/Low Range: 55.24 (wider range, reflecting increased volatility and larger swings)
Directional Movement: Displays less directional movement but higher volatility, meaning the market's direction is less pronounced.
Volatility: Higher high/low range, indicating more significant price swings and increased volatility.
Edge: Opportunities for active/mean reversion trading due to increased volatility and larger price swings. Long butterfly spreads centered at the ABS, Flip have also performed well.
Two Days Before Consumer Price Index (CPI):
Average Close %: 0.13%
Average High/Low Range: 37.45
Directional Movement: Shows modest percentage changes, indicating a period of consolidation or stability before the CPI report.
Volatility: Narrower high/low range indicates lower volatility but still some price movement.
Edge: The market has been relatively stable with minimal directional movement. Credit spreads and iron condors have outperformed. Additionally, long butterfly spreads centered near the previous session's close has performed well.
One Day Before Consumer Price Index (CPI):
Average Close %: 0.05%
Average High/Low Range: 42.79
Directional Movement: Exhibits a small negative close, suggesting slightly less directional movement compared to 2 Days Before.
Volatility: Wider high/low range reflects higher volatility and more significant price swings as participants position and adjust for the volatility event.
Edge: Opportunities for active/mean reversion trading due to increased volatility and larger price swings. Long butterfly spreads centered near the previous session's close, ABS, Flip have performed well.
The data is based on events occurring between 01/3/2023, and 09/06/2024
The Afternoon Reversal
One day before a volatility event, volatility often increases from the prior day as participants adjust and position themselves for the upcoming event. This usually results in higher demand for volatility and increased volume in short-dated options (1DTE to 4DTE). Hedging with short-dated contracts has become a popular trend due to their low cost and effectiveness in mitigating tail risk.
This activity often leads to a trending morning as participants chase exposure, with a turning point typically occurring around midday. However, if the market is particularly one-sided, this turning point may shift to the late afternoon, around 2:00 to 3:00 PM ET, potentially resulting in a strong counter-trend move into the close.
<09/05/2023: One Day Before Non-Farm Payroll>
<08/28/2024: One Day Before NVDA Earnings>
The underlying reason for this pattern is that if the market sells off, call options become cheaper, attracting call buyers who want to position themselves for the event. Conversely, if the market rallies, put options become cheaper, attracting put buyers.
If you are speculating on a late-day reversal, long butterfly spreads or out-of-the-money long options are the most attractive strategies. These approaches are low-risk, especially given the time of day, and offer high reward potential, with gains accumulating quickly if the market reverts.
Additionally, key metrics such as the Flip, Put Wall, and Call Wall rarely break without a catalyst. When they do break, it is typically on these days because participants are less focused on the day's price action and defending levels, and more on positioning or accumulating inventories, if you're a dealer, in anticipation of the volatility event the next day.
Market Closing Price
The market is most likely to close at 'fair value,' or not far from the unchanged mark. From an options positioning perspective, 'fair value' typically corresponds to a balanced strike—one with a high absolute gamma value, combining both call and put gamma. Think of it as representing a straddle position, where participants expect volatility but are uncertain about the market direction. These balanced strikes often occur at round numbers, such as 00 and 50 handles, for the SPX and SPY.
These are common patterns, but they should not be traded blindly. While markets often exhibit certain trends, each situation is unique. It is important to conduct thorough analysis before placing any trade.
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