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Retail investors are reportedly treating them like lottery tickets. Large funds are using them to tactically shield their portfolios from potential hazards. Sophisticated traders are using them to siphon profits from daily market swings.
They are called zero-day to expiry options, or “0DTEs,” and they have captured the attention of both professional and amateur traders alike while helping to fuel a boom in options trading that is transforming markets.
Over the past 18 months, activity in the 0DTE options market has hit record after record, with the most recent one arriving during August, when 0DTE options tied to the S&P 500 accounted for half of all average daily trading volume in the complex, according to Cboe, the largest U.S. options exchange operator.
What’s more, since the beginning of 2023, they have accounted for 43% of average daily volume, up from 36% in 2022, and just 5% in 2016.
CBOE
Their growing popularity has already inspired the first in what’s expected to be a trio of 0DTE-focused ETFs, which started trading on Thursday. European exchanges have also tried to get in on the action by introducing daily expirations for options tied to the Euro Stoxx 50
FSTX00,
one of the most popular European equity benchmarks.
See: First ETF to trade zero-day options makes its market debut. Two more are in the works.
Despite all the hype surrounding 0DTE, there are a lot of misconceptions surrounding how they work, what’s driving the boom and the potential risks that could be associated with these products. Here’s a rundown of what we know, and what we don’t.
What’s a 0DTE?
Simply, a 0DTE option is an option contract with 24 hours or less until it expires.
The short lifespan of these products means they are relatively cheap to purchase. This is because the probability of them paying off is low relative to options with more time left on the clock. Some have likened them to lottery tickets, but Cboe and CME Group have told MarketWatch that these products are intended to give investors the power to tactically hedge their portfolios against economic data like Wednesday’s U.S. August consumer-price index report.
Options contracts give investors the right, but not the obligation, to buy or sell a stock, currency or other asset at a given price before a set expiration date. Contracts linked to the S&P 500 index are typically settled in cash, meaning investors holding “in the money” options can exercise them for a cash payout, or sell them for a profit.
What are they used for?
Much attention has been paid to traders using 0DTEs like “lottery tickets,” pouring money into high-risk bets where they either lose everything or reap massive returns, sometimes in the space of an hour or less, as The Wall Street Journal recently reported.
Derivative experts say this extreme volatility is why retail traders and nonprofessionals should approach with caution. Of course, this lopsided risk profile has been akin to catnip for speculators, who congregate on Reddit and Discord, platforms where small-time investors swap tips and share stories about mammoth gains and losses.
While their utility for gambling on short-term market swings has captured the attention of the financial press, Cboe and its main rival, CME Group, maintain that the products are mostly being used for more mundane purposes like hedging larger stock portfolios.
“Most traders are taking a very systematic approach to trading SPX 0DTE,” said Jonathan Zaionz, senior derivatives analyst at Cboe, in a recent report.
Retail vs. institutional: who’s driving the 0DTE boom?
Despite their growing popularity, there is some confusion about which class of investors is driving all this activity. According to Cboe, 0DTEs are averaging $500 billion in notional value traded a day in 2023 in the S&P 500 complex alone. Some have put the total average notional volume in 0DTE at around $1 trillion.
Brent Kochuba, founder of Spotgamma, an options market analytics service, has said these numbers are simply too large to be driven by mostly retail flow.
“We’re still trying to get to the bottom of who is doing this stuff. We’re getting conflicting messages from the exchanges,” said Larry Tabb, head of market structure research at Bloomberg Intelligence, in a phone interview.
“Cboe said 90% of the flow is coming through retail channels. But that doesn’t necessarily mean that you and I are buying all these options. It could be RIAs or small hedge funds,” Tabb said.
Zaionz said volume growth is being driven by both small-time and professional traders.
“Volume growth has been coming from diverse types of investors. From large institutions, to midsize hedge funds to small retail traders, volumes have been increasing across the board,” he said in a report.
Meanwhile, a representative for Cboe said individual investors are involved in between 30% and 40% of trades in S&P 500 index options, however, it’s difficult to discern whether this flow is coming from small-time retail investors or institutions trading on the platform.
A representative for Interactive Brokers, one of the biggest brokerage platforms for options trading used by both retail traders and small firms, declined to share data on order flow with MarketWatch.
What inspired the 0DTE boom?
Traders have been using strategies revolving around 0DTEs for years. But they started to see wider appeal in 2022 after Cboe and its main competitor, CME Group, introduced weekly S&P 500 options expiring on Tuesdays and Thursdays, enabling traders to trade 0DTE every day of the week.
This was the culmination of a shift toward offering more short-dated options that began in 2005 when Cboe introduced its first weekly S&P 500 contracts expiring every Friday. They later expanded this to every Monday and Wednesday in the second half of 2016.
It is also worth noting that popularity of 0DTEs is part of a broader postpandemic surge in speculative trading. During the meme-stock frenzy of 2021, trading in single-name options including contracts on Tesla Inc.
TSLA,
GameStop Corp.
GME,
and AMC Corp.
AMC,
drove much of the growth in options trading. But more recently, the momentum has shifted back to index options.
To be sure, volume is growing across the entire U.S. listed options space. Options Clearing Corp., the main clearinghouse for U.S. options, show the pace of growth in overall U.S. listed options trading has accelerated to 24% annualized since 2019.
Are 0DTEs a threat to stock-market stability?
Some options-market experts and academics have blamed 0DTEs for making the U.S. stock market more volatile, a notion that Cboe and CME have vigorously disputed. Others contend that they could trigger a blowup akin to the “Volmageddon” incident from February 2018.
Much of this speculation centers on the potential impact of option market makers needing to hedge their exposure to options that can go from worthless to extremely valuable in the span of hours, if not minutes.
A team of researchers at the University of Utah said it found a relationship between elevated 0DTE volume and exaggerated intraday market swings in a study released in 2023.
Meanwhile, Kochuba and other options-market experts have told MarketWatch that it is reasonable to be concerned that 0DTEs could exacerbate a shock during an extreme market event like the volatility seen during the advent of the COVID-19 pandemic in March 2020.
Some on Wall Street have already blamed 0DTEs for more modest bouts of volatility. One notable example occurred on Aug. 15, when the S&P 500 dropped roughly 0.4% during a 20-minute period shortly before markets closed, seemingly out of nowhere.
Goldman Sachs Group analysts blamed 0DTEs for triggering the move. But analysts at both Cboe and Bank of America have disputed this. In a recent report, Mandy Xu, head of derivatives market intelligence at Cboe, said the exchange’s data simply don’t support this.
Still, debates like these are a testament to the unproven nature of 0DTEs. For now, Kochuba said he expects they could continue to be blamed when markets move suddenly with little explanation.
Whether they deserve to be, or not, is another matter entirely.
