Bed Bath & Beyond (NASDAQ: BBBY) is currently in a genuine gamma squeeze, bolstered by a relatively benign macroeconomic investor sentiment and copious fuel in the form of sky-high short interest that is now being exploited through large-scale, short-dated call buying activity. Before going further, it is pertinent to understand what is a gamma squeeze. When investors purchase a large amount of short-dated call options, dealers – who have to take the opposite side of these trades – hedge their resulting short exposure by buying the underlying stock. As the call buying activity accelerates, so does the quantum of shares bought by options dealers, thereby resulting in a gamma squeeze. Of course, as we’ve noted previously, Bed Bath & Beyond already had a sky-high short interest, computing at 52.51 percent of its float last week. As the broader market went vertical on soaring expectations of a Fed pivot, the initial short squeeze in Bed Bath & Beyond shares has now been converted into a fierce gamma squeeze, with apparently no end in sight. Consider the fact that the stock was up around 75 percent at one time yesterday, only to close with gains of around 30 percent. Bear in mind that the stock is already up over 360 percent relative to its year-to-date lows. Bed Bath & Beyond had clocked in gains of around 800 percent between March 2020 and January 2021. Many investors now expect the stock to repeat this historic bull run. Are these expectations feasible? Let’s delve deeper. Based on the latest US CPI and PPI reports, investors are betting that the peak inflationary impulse has likely passed, setting the stage for the Federal Reserve to adopt a more dovish monetary policy going forward. The rationale here is quite simple. With inflation on the retreat now, the Fed might not need to raise interest rates very aggressively, thereby limiting the prospects of the so-called hard landing – that is, recession. This broad-based view has unleashed a fierce bear market rally, leading to spectacular gains in the meme stock universe, including Bed Bath & Beyond.
— Lance Roberts (@LanceRoberts) August 16, 2022 The S&P 500 index completed its 50 percent Fibonacci retracement from all-time highs last week. This is important as the benchmark index has never completed a 50 percent retracement in modern times to then go on to mark new all-time lows. Of course, the Nasdaq 100 index has done so. Nonetheless, this factor bodes well for the health of the ongoing broad-based rally. Additionally, around 90 percent of the S&P 500 index components are now above their respective 50-day moving averages, which suggests that the bear market is over for now. However, there are risks. For one, Morgan Stanley expects the bear market to resume in September/October as the US economy continues to decelerate while earnings take a hit due to margin compression – slowing down demand removes the ability of the companies to hike prices while the labor costs continue to soar, leading to significant margin compression. This setup remains a threat to the prospects of the ongoing nascent rally in the wider equity universe, including Bed Bath & Beyond. On the intrinsic front, Bed Bath & Beyond shares are currently ranked at the number two spot on Fintel’s Gamma Squeeze Leaderboard. However, the fact that Bed Bath & Beyond shares could not retain their extraordinary gains recorded during the earlier part of yesterday’s regular trading session suggests that near-term exhaustion might be at hand. This view is bolstered by analyzing the 30-day implied volatility skew between 25-delta puts and calls. As is evident from the snippet above, the implied volatility – hence, the demand – for puts on Bed Bath & Beyond shares has accelerated sharply. This suggests that investors might be trying to protect their nascent outsized gains by buying puts. So, to answer our primary question, yes, Bed Bath & Beyond shares can certainly replicate 800 percent gains registered back in 2020. Even if Morgan Stanley ends up being right on its bearish call, September is still quite a few weeks away, leaving plenty of time for the ongoing gamma squeeze to do its magic.
