A Breakthrough for Institutional Investors Trading SPY Options

Jan 14, 2014

Institutional investors such as pension funds and mutual funds are a crucial step closer to being able to take large positions on SPY options, which overlie the SPDR S&P 500 ETF Trust.  The Financial Industry Regulatory Authority (FINRA) has just received approval to eliminate position limits on the options, which were previously set at 900,000 contracts.

NYSE Amex Options was the first exchange to file for and receive approval to eliminate position and exercise limits for the SPY options, in August 2012.  The other options exchanges followed and received approval as well. However, FINRA still had position limits on their books for the SPY options, and most options firms and broker-dealers are FINRA members, or if they were not, they cleared through a FINRA member.  

Position limits exist to help prevent distortion or manipulation of the markets. However, according to Steve Crutchfield, the CEO of NYSE Euronext’s two U.S. options exchanges, NYSE Amex Options and NYSE Arca Options, “the 900,000 limit was quite restrictive for institutional investors and prevented them from effectively using options to hedge their large positions.”

SPY is an ETF tied to a broad-based index; it is multiply-listed and the SPY options can be traded on NYSE Amex with no added cost for customer accounts, Crutchfield said. He also noted that the proprietary products based on the S&P 500 (SPX index options and SPXPM index options), traded at the CBOE, do not have position limits.

SPY options are similar to the other S&P index options in tracking the S&P 500, but they are physically delivered in shares of the ETF.

One of the arguments made by the options exchanges in asking the SEC to eliminate the position limits on SPY options was the product’s liquidity — they are the most liquid equity option product, and the underlying ETF is highly capitalized. Those attributes are seen as making manipulation of the product less likely.

The SEC allowed the elimination of the position limits as a “pilot program” and recently extended the pilot program for most if not all of the options exchanges until at least the end of 2014. Because FINRA had not yet eliminated the position limits, “there effectively was no pilot last year,” Crutchfield said, because no one was able to avail themselves of the exemption approved for the exchanges.

FINRA is the largest non-governmental regulator of securities firms doing business in the U.S.  

The pilot program is now effectively in place, and exchanges such as NYSE Amex/Arca are hoping it will eventually become permanent.  The contract now has the potential to see increased volume from institutional investors. 

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