How SoftBank And Robinhooders Added Fuel To The Stock Market Boom

Joe Weisenthal (0:10)

Hello, and welcome to another episode of the Odd Lots Podcast. I'm Joe Weisenthal.

Tracy Alloway (0:16)

And I'm Tracy Alloway.

Joe Weisenthal (0:18)

So Tracy, I feel like there are some episodes of this where like, well, there are some episodes of our podcast where I think like, okay, this is a Tracy podcast. I'm probably mostly just going to sit back and listen.

And anytime I feel like we're going to have a conversation that involves the term Delta hedging, which I'm still like kind of like having totally like locked down solid and what that means, I'm like, okay, this is like, this is like a Tracy episode.

Tracy Alloway (0:43)

Okay, first of all, that's very sweet of you to say. Second of all, I just told you that I lost all my notes for this episode.

So now I feel like the stakes are very high and you know, I might not do as good a job as you expect. But yeah, we're going to be diving into Delta hedging. But the weird thing is that that Delta hedging has kind of exploded into the public consciousness for, I think, the first time in a while, or at least everyone in the market is talking about it because we have this big drama in options.

Joe Weisenthal (1:16)

Yeah, that's exactly right. So basically, I mean, one of the most surprising things in this crisis period, and we've talked about this a few times, is the degree to which retail traders have really aggressively jumped into this market, timing the market really well, jumping in right at the bottom.

We sort of know about the mania, but what's interesting too is sort of the option strategies, not just sort of like buying Tesla or buying Amazon or buying Netflix, but actually like trading aggressively with options. And the use of options has all kinds of interesting sort of like market structure ramifications.

Tracy Alloway (1:53)

Yeah, absolutely. And one of the big developments that we've discussed on the podcast is the rise of Robinhood and forums like WallStreetBets.

And instead of just buying stocks and profiting as the shares go up, a lot of people are undertaking equity derivative strategies, call options to get leverage on their trades, and some of them seem to be making big money.

But the major question for markets right now is whether or not all that options activity, that rising options activity actually has an impact on the underlying stock. So that's the big question. There's one other bit of drama that we haven't mentioned yet, and that is SoftBank. So SoftBank is a Japanese conglomerate, a big tech investor, and it emerged relatively recently that they had been buying call options as well. Although I think there are varying reports about what exactly they're doing. Some people are describing them as the whale in the options market, the implication being that they're moving prices in some way. Again, there's a lot of debate about how much influence they actually have. We're going to be getting into all of that on this episode.

Joe Weisenthal (3:10)

Right. Anytime SoftBank is involved with something, there's an added level of drama because people love to, people love SoftBank drama. They love the whole WeWork thing.

So it's like, oh, SoftBank is doing the same trade, buying a bunch of tech stocks. There's a bunch of people on Robinhood.

Tracy Alloway (3:24)

Yeah.

Joe Weisenthal (3:24)

It's just a super juicy story. And so we're going to sort it all out.

Tracy Alloway (3:29)

Plus Wall Street Bets. It's kind of the perfect combo.

Joe Weisenthal (3:31)

Perfect Twitter fodder. So we're going to break down what is actually going on. And our guest today is our go-to for all things volatility, all things option trading. We've had him on in a couple of times in the past. He is Benn Eifert. He is the CIO at QVR Advisors.

And he has a gift for explaining this stuff in plain English.

So, Benn, thank you very much for joining us.

What is delta hedging again?

Benn Eifert (4:02)

Hey, Joe, how are you guys? Thanks for having me on.

Joe Weisenthal (4:06)

No, but seriously, what is it again?

Delta hedging? I always forget.

Benn Eifert (4:10)

Absolutely. So think of it this way, right? So options are simple tools that investors of different kinds use to hedge their portfolios or to speculate in different ways.

A call option, for example, is just a really simple instrument that gives the owner of that option the right but not the obligation to buy a stock in the future at some predetermined price.

So a retail investor that thinks Tesla is going up could buy the next Friday's 2000 strike Tesla call. And if Tesla goes up to 2200, they're going to get to buy Tesla at 2000 And it's going to be worth 2200 at that point. And they might have only had to pay 25 bucks or 30 bucks for that. So it just gives them a very simple way of expressing a directional view with limited loss. Now, the thing to keep in mind is the way that this marketplace works. If that retail investor goes out and buys that Tesla call option, they're buying it from a market maker. And maybe that market maker holds on to that position. Maybe they flip out of it to a volatility arbitrage hedge fund. But at the end of the day, the other side of that option position lives with a market participant that does not have a directional view on the stock. So the retail investor isn't somehow magically pairing off in every case with some other retail investor that just has the exact opposite view and wants to sell that call. When the market maker sells that call option to the retail investor, that call option is going to have some sensitivity to the price of the stock. If it's out of the money, it might be, say, per contract, it might be 25% as sensitive to the stock price. In other words, if 1,000 shares worth of Tesla trade, those call options might have exposure worth 250 shares. The market maker is just going to hedge that exposure right away when they do the transaction.