Why did US stocks rebound strongly on Thursday? Hopes for a soft landing, Powell's trading characteristics, and zero-day options catalysts

This Thursday, after a dramatic turnaround following a significant rate cut by the Federal Reserve, the major U.S. stock indexes rebounded strongly. The S&P 500 and the Dow hit new intraday highs, with the S&P rising over 2% and the Dow gaining nearly 660 points, up almost 1.6%. Some analysts believe that the surge in U.S. stocks on Thursday was due to the unexpected drop in the number of initial jobless claims in the U.S. to a four-month low, boosting investor confidence in the Fed's ability to achieve a soft landing.

Others suggest that Thursday's performance may reflect more on the trading dynamics since Powell took over as Fed chair, rather than the monetary policy situation. Paul Hickey, co-founder of Bespoke Investment Group, noted that since Powell took office in 2018, there has been a pattern in stock market trading on Fed decision days: a drop in the final hour of trading. Previously, during Fed rate cut cycles, the stock market had risen in the final hour of trading, but this Wednesday followed the usual downward trend.

Catalyst Funds portfolio manager Charlie Ashely stated that the market's reaction on Wednesday to the Fed's rate cut announcement indicated concerns about economic deterioration, but Thursday's situation seemed different. He pointed out that the immediate market reaction to the Fed's rate cut announcement is often unstable and irrational.

Experts in the options market have differing views.

Brent Kochuba, founder of the options market analysis platform SpotGamma, pointed out that after the Fed's FOMC monetary policy meeting, the S&P 500 was in a very unique position: negative Gamma in the upward direction. This means that there are large positions in the market where traders are buying SPX call options, putting market makers in a negative Gamma position.

Negative Gamma implies that market makers buy futures when the S&P index rises and sell or short when it falls. Clearly, the FOMC meeting on Wednesday and its 50 basis point rate cut concentrated market momentum on the upside, with the main target for the S&P being 5750 points.

The screenshot below from SpotGamma's trading panel Trace shows SpotGamma's estimation of market maker positions to predict SPX market maker hedging flows. The red color represents negative Gamma. The image simulates market makers with significant call option selling positions at 5675 points and 5800 points. The strike prices can be seen on the left side of SpotGamma's Trace chart.

Specifically, as of this Thursday, the blue area in the bottom chart shows that 5750 points is a short-term area where "local" positive Gamma is visible. It is important to note that the blue area is concentrated in the afternoon at 4 p.m. Eastern Time and disappears after 4 p.m. This is because the main positive Gamma on Thursday is being driven by zero-day expiration options (0DTE) positions that expire at the close of that day.

Starting from Thursday morning Eastern Time, the midday update shows a positive Gamma strip appearing above 5700 points, indicating that the market is supported at that level. SpotGamma points out that this positive Gamma is mostly driven by 0DTE positions, including 4,000 contracts of 0DTE call options with a strike price of 5735 being sold.

These supportive market maker positions suggest that the S&P will close higher at 5735, which is the white area on the chart at 4 p.m. Eastern Time.

September 20th, this Friday, is the triple witching day when a large number of index, individual stock, and ETF options expire. It is expected that this upward momentum in the stock market will play a significant role when these options expire on the triple witching day. The expiration of these options on Friday and next Monday may force long call positions to close and roll over, which could temporarily hinder the upward momentum.