The Surge of Bullish Options: Outperforming the S&P 500 in the New Trading Era

TipsForTraders | March 6, 2024

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In a remarkable turn of events that underscores the evolving dynamics of the stock market, a surge in the demand for bullish options contracts has led to an impressive outperformance of certain stocks against the broader S&P 500 index. This phenomenon, as chronicled by data from Cboe Global Markets, marks a significant uptick in the activity of both professional and retail traders, reminiscent of the fervor seen during the meme-stock phenomenon.

A detailed analysis by a team of equity strategists from Citigroup has shed light on this trend, revealing that a select group of 50 companies, identified for their substantial bullish options activity, have notably surpassed the S&P 500 in terms of returns since the onset of the COVID-19 pandemic. This divergence is not just a recent development but has been evident since December 2018, with these top-performing stocks outpacing the S&P 500 by a remarkable 7 percentage points, as per Citigroup’s findings.

Options contracts, specifically call options, play a pivotal role in this scenario. A call option grants the buyer the right to purchase the underlying asset at a predetermined price within a specified timeframe, making it a strategic tool for investors anticipating a rise in stock prices. Conversely, put options offer the right to sell, typically utilized by those forecasting a decline. Although these financial instruments are often employed for hedging purposes, the recent trend underscores a significant tilt towards call options, signaling a bullish outlook among investors.

The Citigroup strategists, led by Stuart Kaiser, the head of U.S. equity trading strategy at Citigroup, have carefully analyzed this trend, noting the substantial increase in options trading post-pandemic, particularly among retail investors. This surge in activity predominantly favored call options, concentrated on a handful of stocks, which in turn, experienced superior market performance in the pandemic’s initial years.

While establishing a direct causal link between the heightened demand for bullish options and stock performance remains challenging, the Citigroup team underscores the significance of this correlation. According to them, the marked preference for call options and the resultant outperformance of certain stocks is a noteworthy trend for investors, especially in light of the increased options trading volumes.

A notable highlight in this evolving narrative was February’s remarkable uptick in options trading, driven by investors’ anticipation of Nvidia Corp.’s (NVDA) latest earnings report. This period witnessed the highest level of demand for options on individual stocks since January 2022, further accentuating the growing investor interest in bullish bets, as highlighted by Citigroup’s analysis.

In conclusion, the substantial rise in options trading, particularly bullish bets via call options, underscores a transformative phase in market dynamics, with specific stocks significantly outperforming the broader market indices. This trend not only highlights the increasing engagement of retail and professional traders in the options market but also signals a potential shift in investment strategies in the post-pandemic era. While the direct impact of options trading on stock performance remains a subject for further investigation, the correlation identified by Citigroup offers a compelling insight into the evolving landscape of financial markets.