Gamma Squeeze – The Hidden Force Behind Sudden Price Spikes

A gamma squeeze is a market phenomenon where rapid stock price movements are amplified by options market makers adjusting their hedging positions. It often results in dramatic short-term rallies in a stock’s price, catching many off-guard. How It Works: 1. It Starts with Heavy Call Buying When traders aggressively buy out-of-the-money call options, market makers (who sell those options) must hedge their risk by buying the underlying stock. 2. Gamma Comes Into Play Gamma measures how much delta (the hedge ratio) changes with the stock price. As the stock rises, delta increases, so the market maker must buy even more shares to stay hedged. 3. Feedback Loop This buying pressure drives the price higher, further increasing gamma exposure and requiring more hedging – a feedback loop that leads to explosive stock price movement. Real-World Examples: • GameStop (GME) in early 2021: A mix of short squeeze and gamma squeeze drove prices from under $50 to nearly $500 in days. • AMC, Tesla, and others have also shown similar squeezes during periods of heavy options activity. Key Terms: • Delta: Sensitivity of an option’s price to changes in the stock price. • Gamma: Rate of change of delta. • Implied Volatility: Often surges during a squeeze, inflating options premiums. Risks and Considerations: • Extreme Volatility: Traders often chase these moves late and get caught when the squeeze unwinds. • Not Sustainable: Gamma squeezes are short-lived; once hedging pressure cools, prices often revert sharply. • Requires Expertise: Understanding options greeks and volume flow is essential before engaging in such trades.