Treasury Protection Up 40% While Stocks Didn't Rise a Cent! Nasdaq Options Priced in Only an Extra 1% for the Rate Decision Day, Put Positions Surged 68% in a Single Week of the FOMC Meeting, Market Makers Cut Their Hedges by 70% After October 16, MOVE at the 99th Percentile While VXN Only at the 34th — When the Boot Drops, It Drops on People, Not on News

This video delves into the limitations of the notion that "expectations are already priced in" within the capital markets. Using the differing performances of the US Treasury market and Nasdaq options around the Federal Reserve's rate decision meeting as an example, the host analyzes the time lags among different market participants—such as the bond market, high-frequency traders, market makers, macro funds, and long-term funds—in receiving macroeconomic expectations. It points out that the differences in option prices and volatility reflect the lag in expectations reaching the Nasdaq.

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Observe things as they are and reject fragmented cognition. We may often hear about this thing called "price in," and it seems to have become, how should I put it, a universal explanatory tool for prices. Especially in investment banking reports nowadays—it is hard to tell whether the AI models they use are too uniform or if human brains have simply gotten lazy. Seriously, this concept has almost become quantum mechanics in the capital market. As the saying goes, when in doubt, use quantum mechanics; when the analysis lacks sincerity, just open your mouth and say "price in," right? Let us look at a recent market performance to examine what expectations actually are and how this thing participates in pricing. On September 16, the Federal Reserve raised interest rates by 25 basis points, lifting the federal funds rate to the 3.75 to 4 percent range, and the 10-year US Treasury yield touched 5.3 percent intraday, the highest level since 2007. The next rate-decision meeting was scheduled for October 27 and 28, just within those two weeks. The market's implied probability for another rate hike in October surged all the way from 40 percent to 70 percent, and then was smashed back down to 30 percent within just two days. But guess what the Nasdaq did? The options pricing on the Nasdaq for the volatility on October 28 was only about 1 percent higher than usual days, showing no difference whatsoever from an ordinary rate-decision meeting. Why does such a decoupling occur? It is because regarding the same event, market expectations do not arrive at the same time. The arrival time of expectations across different markets and in the hands of different people can vary drastically. This time lag is precisely where ordinary people get fooled and crippled by the phrase "already priced in by the market." Let us first break down this phrase: what does it mean when the market has already "priced in" something? Before seeing this sentence, you have to ask a few questions—at least three. First, whose expectations, in which market, and at what time? If these three questions cannot be asked clearly, then the two words "pricing" are nothing more than nonsense. Why? Because the market is not a single subjective entity; the market is a bunch of people, and this bunch of people live in different markets, use different clocks, and look at different calendars. People in the bond market—those of us who stare at the Fed's rate decisions and the Treasury's auction calendar day in and day out—derive their profit and loss as interest rate traders directly from these two outcomes. If we add more important factors, well, then we look at the liquidity factors of that market. Of course, there are some macroeconomic factors inside, but mainly we still look at the Fed's view on inflation. Therefore, rate-decision meetings are always top priority in the bond market. And what do people in the stock market watch? They watch earnings reports, AI capital expenditures, and oil prices. At most, add an interim election in October; for the stock market, a rate-decision meeting is just one variable among a pile of variables. For the same piece of news, to people in the bond market, it is the main course; to the stock market, it is merely a side dish. Under such circumstances, how could the arrival time of expectations possibly be the same?

Let's look at interest rates first. There is a type of futures contract called 30-Day Federal Funds Futures. This is settled based on the daily average of the federal funds rate for a given month; simply put, it is a contract where you bet on what the average Fed interest rate will be for that month. Its price is 100 minus the interest rate, so you can directly derive the probability that traders are betting on a rate hike from this price. So, how has this probability trended over the past two weeks? On September 15th, the day before the rate hike, the probability of another hike in October was 40%. On September 16th, the day the rate hike was implemented, it became 50%. From September 18th to the 21st, it was 58%. On September 23rd, the day the 10-year Treasury yield surged, it shot straight up to 70%. Then, on September 25th, as oil prices fell, it dropped to 62%. On Monday, September 28th, it returned to 70%. Then came September 29th, when New York Fed President Williams came out and said something—what did he say? He said there was no need to rush, and that single sentence smashed it down to 50%. By 8:30 AM on September 30th, the August PCE price index was released, showing a 3.4% year-over-year increase, which was lower than expected. This probability was smashed down again to 38%. Finally, there was the non-farm payroll data, which was significantly worse than expected, and it was pushed back down to 30%. Just look at this curve; in two weeks, the market bet on both a rate hike and no rate hike. Once the PCE came out on September 30th, the 10-year Treasury yield was smashed down to 5.2% in a matter of minutes, only to climb back to 5.29% at the close, seeing a full round of tug-of-war in a single day. The more intense this tug-of-war is, the more expensive the final cost of options will be, right? The panic index for the bond market, as I have mentioned before, is called the MOVE index; you can just understand it as the VIX index for US Treasuries. It rose 40% from September 22nd to the 30th. Fund managers managing US Treasuries now have to pay 40% more to buy one-month downside protection. In other words, this expectation has long arrived in the bond market, and not only has it arrived, it has already been tossed back and forth three times. Now let's look at the Nasdaq. The Nasdaq's panic index, called the VXN, was almost exactly the same on September 30th as it was the day before the rate hike; it barely moved. This means that fund managers managing the Nasdaq are paying about the same amount for one-month downside protection as they were before the rate hike. Bond market protection has become 40% more expensive, but the stock market hasn't increased by a single cent.

The most critical point is the pricing of Nasdaq options for the interest rate decision day. I calculated it using the daily expiration options for the Nasdaq 100. Looking specifically at October 28th—why the 28th? Because this meeting lasts two days; the 27th is for closed-door discussions, and the statement is only released at 2:00 PM on the 28th. In other words, all the news falls on the 28th. So, we can compare the options expiring on the 28th with those expiring on the 27th; the difference is the extra margin for the 28th, right? Well, now we can calculate it. The total implied volatility of the options is 1.5%, while a normal day typically accounts for 1.1%. Here, I need to clarify what this total volatility is: Nasdaq option prices are determined based on the potential magnitude of the Nasdaq 100's rise or fall. Calculating the fluctuation for the 28th gives us 1.5%. What does this mean? It means the options market is pricing based on a rise or fall of about 1.5% for the Nasdaq 100 on the 28th, with a 67% probability. That is to say, there is about a two-thirds chance that the day's movement will fall within plus or minus 1.5%. Wait, no, it's plus or minus 1.5%. Why, after subtracting the normal 1.1%, is the remainder 1% instead of 0.4%? Because we subtract the squares of the volatilities; the movement of a normal day and the movement brought by the interest rate meeting are independent of each other. What does the square of the total volatility equal? It equals the sum of the squares of the volatilities on both sides. So, the square of the 1.5% total volatility is 2.25. Subtracting the square of the 1.1% normal day volatility, which is 1.21, leaves 1.04. Taking the square root gives us about 1%. After stripping that away, the portion purely attributed to the interest rate meeting is only about 1%. The implied volatility for the entire week of the interest rate meeting is only 3.8 volatility points higher than the previous week. And within those 3.8 points, there are other factors involved, including what? It includes the earnings reports of the five giants: Microsoft, Google, Meta, Apple, and Amazon. By convention, these five earnings reports are scheduled for after-hours on October 28th and 29th, squeezed into the same timeframe as the interest rate meeting. If you look closer at the volatility Nasdaq options set for October 29th, it is exactly the same as the meeting day on the 28th—both are 1.5%. In other words, in the eyes of Nasdaq options, the giants' earnings reports and the Federal Reserve's interest rate hike carry the same weight. This is the clock of the stock market. The stock market's clock is the clock of earnings reports, not the clock of interest rate meetings.

Think about this picture: in the bond market, the probability of the same event swung back and forth within two weeks, the fear index rose by 40%, and option hedging also became 40% more expensive. But in the stock market, the Nasdaq's fear index is hovering near its one-year low, and the pricing for the interest rate meeting day is no different from a normal meeting. This isn't because the stock market doesn't care about interest rate hikes; it's because the expectation of the hike hasn't reached the stock market yet. Why hasn't it reached it? Because option prices are pushed up by buy orders, and market makers have a reference for pricing this meeting day—the reference is the distribution of historical volatility. What has the Nasdaq's volatility been over the past 16 interest rate meeting days? It's been around 1.3%. This time, it's 1.5%, which is just a standard meeting quote. Only when there are more buyers will the market maker's risk increase, and only then will they raise prices. This means the funds that should be buying protection in the stock market haven't arrived yet. Furthermore, expectations don't enter the stock market through the front door of the index; they enter through the side door. How so? Let me give you an example, and you'll understand. On September 29th, the credit spread of U.S. high-yield bonds widened by 303 basis points, the widest since April. The credit market has already moved. Look at the options for individual giants: the Chicago Board Options Exchange has compiled a separate volatility index for the giants. Google's index rose by 6% from September 18th to September 25th, ARM's index rose by 11% in the same period, while Apple's index is still stuck in the 10% range, the lowest in the past year, without moving at all. Do we see this chain? Expectations enter the bond market first, then the credit market, then seep out from the options of individual giants, and finally reach the index. The index is the slowest station in the entire chain, so if you keep your eyes on the index, you will always see only the final act.

There is another key concept here, which is that expectations are not just a number, nor are they something that everyone receives and prices simultaneously the moment a piece of news comes out. Expectations must be carried into the market by specific people, because different people live in different timeframes and use different clocks. When people arrive, expectations arrive, so we can rank the people in the market according to the speed of their clocks. The fastest to react are high-frequency trading algorithms, which are all about speed; within 400 milliseconds, the algorithm reads the text and gets to work. But what high-frequency trading systems do is liquidity arbitrage, and the work they do is draining all the orders that opponents have hung on the order book. However, machines only appear at that exact moment; they do not trade expectations for you a month in advance. Or rather, high-frequency trading simply doesn't care whether the Federal Reserve raises interest rates or not, nor do they even care how different groups in the market expect things to go. They only look at order book data and some hidden variables of liquidity and news. What they do is not price discovery at all; what they do is order book and liquidity arbitrage.

Let's talk about market makers next. The second fastest to react are market makers and volatility funds. Market makers are those who sell options to everyone and then repeatedly hedge on futures. Their reaction time ranges from a few seconds to a few minutes, but market makers have a rule. Market makers only care about the expiration dates right in front of them. What does this mean? In a market maker's ledger, the utmost attention is always paid to that batch of options expiring the soonest, and this portion is also assigned the heaviest weight. Because the closer an option is to expiration, the more violently the option price moves when the index shifts, and the more hedging adjustments will need to be made. The options on the day of the rate decision are still more than twenty days away, and after October 16, only two weeks will remain. Only then will market makers conduct large-scale hedging around this batch of expiring options, and this point can be seen clearly from the trading volume. On Friday, September 25, the total trading volume of QQQ options was 2.65 million contracts, of which 38% were concentrated on the contract expiring on Monday—the so-called zero-day to expiration options, which are these things. 73% were concentrated on the expiration contract before the non-farm payrolls on October 2, while the expiration contract for the week of the rate meeting accounted for only 4%. By the end of the quarter on September 30, coupled with the PCE data, the trading volume of QQQ options directly surged to 5.09 million contracts, with 66% concentrated on that day's expiration contract, while the contract for the rate meeting week accounted for only 1.6%. In other words, for every 100 QQQ options traded on September 30, 85 expired before the non-farm payrolls on October 2, and the bets for the rate meeting week were less than 2.

Oh, by the way, at this point we need to clear up a concept: we must distinguish between trading volume and open interest. For example, Zhang San buys an option in the morning, but sells it to Li Si in the afternoon, and Li Si holds it overnight. How will the trading volume for that day be recorded? This single option is recorded as traded twice, right? Open interest, however, only records the single contract in Li Si's hands; open interest refers to the positions that have not been closed out after the close of trading. Therefore, to see whether expectations have arrived, you cannot just look at trading volume; you have to look at the positions left behind. The open interest of QQQ options expiring in the week of the October rate meeting was 347,000 contracts at the end of last week, and by the close on September 30, it was 581,000 contracts—an increase of 68% in less than a week. The added positions were mainly put options, rising from 264,000 contracts to 455,000 contracts. Moreover, where were more than 70% of the newly added put options placed? They were placed at levels 2% to 8% lower than the current price, with another 30,000 contracts added at a level 14% lower. Open interest does not distinguish between buying and selling, but such a concentrated accumulation below the current price has the most reasonable explanation: someone is buying downside protection for the rate meeting week in advance. In other words, while the zero-day options are where the excitement is, the positions quietly being left behind are piling up toward the week of the rate meeting, and the direction they are piling up in is bearish. These are the footprints of expectations walking into the stock market; although they walk slowly, they can be seen.

Next, let's look at subjective macro funds—those that analyze the macro environment to decide whether to go long or short. Where are macro funds slow? They are slow in their decision-making chain. Let me explain their process so you understand. For subjective funds, the process starts with researchers forming a view, then the fund manager makes the final call, followed by the risk control team verifying the risk limits. If it involves a major position adjustment, it must go through the investment committee. Finally, the trading desk breaks down the large order into smaller ones and feeds them into the market slowly. Therefore, the reaction time is anywhere from a few hours to a day or two. The actions of this group in Nasdaq futures can be seen in the weekly Commitment of Traders (COT) report from the Commodity Futures Trading Commission (CFTC). Where are macro funds categorized in the report? They are classified under 'leveraged funds,' and what is their current status? Leveraged funds are currently in a net short position on Nasdaq futures. This type of fund is represented by Michael Burry, the 'Big Short' from 2008. Let's look at the position data. At their peak on August 11, this group held over 89,000 contracts, equivalent to more than $55 billion. By September 15, the week before the interest rate meeting, they had covered their positions down to just over 6,000 contracts—covering $51 billion in a single month. On September 21, the Nasdaq gapped up to a new high; that 2.6% gain was essentially the tail end of this covering. In the week after the rate hike was finalized, leveraged funds added back 24,000 short contracts, equivalent to $15 billion. Do you see their moves? They liquidated over 90% of their short positions in a very narrow timeframe, and then reopened short positions after the rate hike. They are still on the short side now. Who is the slowest? That would be long-term funds, such as pension funds, sovereign wealth funds, and mutual funds; their reaction time is days to weeks. This group only adjusts positions at the end of the month or quarter, subject to the authorization of their investment committees. You see, October 30 is the end of the month and also after the interest rate meeting; it will take a day after that for this group to move.

So, the quiet market you see now isn't because there are no expectations; it's because those who carry the expectations haven't entered the door yet. People in the interest rate market live on the interest rate meeting calendar every day, so expectations are reflected in the bond market immediately. However, people in the stock market, like market makers, have to wait until after October 16 when that batch of options expires to take large-scale action, and long-term investors have to wait until the end of the month on October 30 to move. The month in between is the time lag. This time lag isn't unique to this year; it's something that grows out of the trading rules and industry regulations of each type of capital. Let me give you an example. Back on October 3, 2018, what did Powell say? He said they were 'a long way from neutral,' and the 10-year U.S. Treasury yield surged to 3.23% that week, hitting a seven-year high. The bond market digested this statement that very day. As for the Nasdaq, it wobbled for a week, then dropped 4% in a single day on October 10, and fell about 9% throughout October 2018. In other words, the bond market arrived first, and the stock market arrived a week late. That late arrival was much more brutal than the first.

Why was it brutal? Because when they arrived late, several layers of people arrived at the same time: market makers were hedging, funds were cutting positions, and long-term investors were adjusting at month-end—all crowding through the same door. Why mention this time sequence? Because this is the arbitrage window for retail investors. We can find time to discuss this separately later; I won't expand on it today. If you are paying attention, you should also watch another date: October 16. This is the expiration date for the October monthly options. Nearly 1.7 million QQQ contracts expire on this day. How market makers hedge will depend on which side of a dividing line the index is on—the Gamma dividing line. Above the line, market makers buy when it falls and sell when it rises, which suppresses volatility. If it breaks below or above the line, they do the opposite—buying more as it falls or selling more as it rises—which amplifies volatility. I calculated this using the market makers' positions. Once this batch of options expires on October 16, the market makers' hedging volume will drop by 70%. Hedging volume is how much QQQ market makers have to buy or sell for every 1% move in the QQQ.

Based on my positions as of September 30, I calculated the positions of the index at various points within five percent above and on either side of the current price. On average, for every one percent QQQ rises or falls, market makers need to buy or sell $4.7 billion worth of QQQ. Once October 16 passes, that figure drops to just $1.5 billion. What does this lead to? It leads to the force squeezing volatility up and down dropping by nearly 70 percent. Why? Because nearly 70 percent of this force comes from where? It comes from the fact that options expiring on October 16 and earlier are closer to expiration, meaning the hedging force of market makers is greater. The remaining options are further from expiration and are predominantly put options. Since the put side naturally tends to amplify volatility, the seven trading days from October 19 to October 27 represent the window in the stock market with the thinnest hedging volume and where expectations are most vulnerable to sudden shocks. How is this hedging position actually calculated? At which index level do market makers flip from buyers to sellers? I have covered this in my membership program and will continue to discuss it, so I won't expand on it here. Then comes the week of the rate decision itself. The statement begins at 2:00 PM on October 28, followed by the Fed press conference at 2:30 PM. On the same day after the close, Microsoft, Google, and Meta report earnings, followed by Apple and Amazon after the close on the 29th. Then the morning schedule on the 30th features the September PCE data, alongside month-end rebalancing, making the end of this month exceptionally busy.

During the one-hour window from 9:30 AM to 10:30 AM on October 29, market maker hedging and hedging against gap openings from tech earnings—since tech giants like Microsoft, Google, and Meta report after the market closes, their stock prices the next morning often gap significantly, whether up or down—will collide. Market makers who sold options on these three companies must cover their hedges right at the open. Combined with macro funds recalculating positions overnight, these three forces will flow into the order book simultaneously, making this the most prone-to-stampede 60 minutes in the entire chain. Moving further out, we have the midterm elections on November 3, followed by the Treasury's quarterly refunding on November 4. The 10-year yield has already touched 5.3 percent, and once the refunding size is announced, the other shoe on the interest rate front will drop. Specifically, we need to see how much 10-year and 30-year long-term debt the Treasury will issue this quarter; the more it issues, the higher long-term yields will be pushed. What else do we need to watch? Didn't Bessent recently plan to implement repo operations? The current daily quota of $6 billion is already fully utilized.

Speaking of this, everyone should realize by now that saying the market has already priced it in is complete nonsense. Because you always have to ask which market you are talking about. Once the bond market prices it in, does that mean the stock market has fully priced it in? Not necessarily. If bond market expectations are also swinging up and down like a tug-of-war without even a consensus, what on earth is being priced? When market expectations in the bond market are still being tugged back and forth, can you say the stock market has fully priced it in? Isn't that absurd? The gap in between represents orders that haven't been placed yet—the money that still needs to come in to buy protection and rebalance—and the moment those orders are placed is when volatility happens. So how large is this gap? If we rank the MOVE index daily from low to high over the past year, the MOVE on September 30 was higher than 99 percent of the days, whereas VXN was higher than only 34 percent of the days. Look at the same meeting: the bond market treats it as the biggest event of the year, while the Nasdaq treats it like just another ordinary day. This discrepancy of over 60 percentage points is the time lag for expectations to arrive. This gap will not exist forever; it will disappear in one of two ways: either the bond market is wrong, and the MOVE index drops accordingly, or the stock market catches up, and the volatility of the Nasdaq rises.

And now the protection against a Nasdaq decline is priced for just another ordinary rate-hcision meeting. By the way, those old sayings among retail investors—like "bad news is fully priced in" or "the other shoe has dropped"—are actually talking about this time lag, except they've got it backward. The so-called "other shoe dropping" means the very last group of people has arrived, and even long-term money has finished rebalancing. At this point, expectations have run through the entire chain, so what drops isn't the news, but the people. If you shout that the shoe has dropped just as the bond market is starting to heat up, the shoe you're waiting for is still up in the air.

There is also an asymmetry here that you can figure out just by thinking about it. If the Federal Reserve does not raise interest rates on October 28, the panic index in the bond market will plummet from the sky, but the volatility of the Nasdaq never really went up in the first place, so the stock market has nothing to give back—at most, it just breathes a sigh of relief. If the Federal Reserve actually raises rates, or talks even tougher after doing so, the stock market might end up running a month's worth of losses all at once. By then, market makers, funds, and long-term money will all be crowding through the same door to make up for lost time.

On one side, the bond market has nowhere left to fall, while on the stock market side, everyone has to catch up on a month's worth of homework all at once. This is the payoff created by the time lag. If they don't raise rates, Nasdaq volatility won't drop much, but if they do, Nasdaq volatility could surge by a huge margin in an instant. Therefore, within the time lag of expectations, whichever market's expectations arrive first is the market whose options will get expensive first. Right now, U.S. Treasury options are expensive; the bond market has already priced all the risks of October 28 into its options prices, while in the market where expectations haven't arrived yet, options are cheap. Right now, the option prices for the Nasdaq during the rate-decision week are still calculated as if it were just an ordinary rate-decision meeting. If a rate hike actually hits the stock market, this batch of options will be repriced, and they will be repriced first. As for how to build the specific structure, which expiration date and which price range, we've already covered it in the members-only show. There are three things you can monitor on your own. What should you watch? Watch the open interest of QQQ options expiring in the week of the rate-decision meeting. Check it once a week; the faster it grows, what does that mean? It means expectations are moving faster.

At the end of last week, it was 347,000 contracts, and on September 30, it was 581,000 contracts—that is fast growth. Take another look next Friday; this is rapid growth. You should check it at least once a week. What else can you watch? Watch the gap between the MOVE index and the VXN. The day that gap narrows is what? That's the day expectations reach the stock market. You also need to watch October 16, because the seven trading days after that day, the market will be much thinner than it is now. Don't treat those few days as ordinary trading days. Finally, let me say this: don't bet on October 28 that the bond market is wrong. The bond market has already gone back and forth three times, because the people in the bond market have already thought about rate hikes and non-hikes, and not just once. The reason the stock market is quiet is simply because the people bearing this burden are still on their way. When we look at the market, we never just look at the price itself; we look at the people behind the price. When the people arrive, that's when we make our move.