Gamma Band Update
The S&P 500 () maintains strength above the gamma flip level last week into the long holiday weekend. We continue to anticipate a muted environment (e.g. a slow grind upward) as long as the SPX remains above the gamma flip level.
The Gamma Band model is a simplified trend following model that is designed to show the effectiveness of tracking various “gamma” levels. When the daily price closes below Gamma Flip level (currently near 4,480), the model will reduce exposure to avoid price volatility and sell-off risk. If the market closes below what we call the “lower gamma level” (currently near 4,280), the model will reduce the SPX allocation to zero.
The main premise of this model is to maintain high allocations to stocks when risk and corresponding volatility are expected to be low. For investors who have been conditioned to “buy low and sell high,” it is counter-intuitive to increase allocations when the market rises, but this approach has shown to increase risk-adjusted returns in the back-test.
The Gamma Flip – Background
Many market analysts have noted that daily volatility in the S&P 500 will change when the value of the SPX moves from one gamma regime to another. Some analysts call this level the “gamma flip.” The scatterplot below shows how price volatility (on the y-axis) is increasingly lower as the value of SPX rises higher above the Gamma Neutral level (on the right side of the chart). When the value of the S&P closes lower than Gamma Neutral (to the left of the chart), volatility increases.
SPX Gamma Neutral Chart
Gamma Band Model – Background
The purpose of the Gamma Band model is to show how tail risk can be reduced by following a few simple rules. The daily Gamma Band model has improved risk-adjusted returns by over 60% since 2007. The graph below demonstrates how this approach can limit drawdowns while maintaining good returns.
Gamma Band Model Historic Information
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