JLN Options: Can bank stock options tell us about the future of the economy?; Rough volatility: New research helps traders hone their edge; The VIX is getting crushed in a ‘volatility trap’

Apr 22, 2015

Observations & Insight

Un Parti Québécois: ISDA 2015 Montreal
by Doug Ashburn – JLN

The International Swaps and Derivatives Association descends on Montreal, Quebec this week for its annual meeting and conference. Ahead of the conference, I caught up with ISDA CEO and former CFTC Commissioner Scott O’Malia, who offered up a preview of the conference and a highlight of the issues the swaps world is grappling with.

“The big issue is cross-border harmonization,” says O’ Malia. “I left the commission in the middle of the cross-border debate and came over to ISDA, and now it is all about implementation and coordination of the European and U.S. rules.” He looks at the objectives set out by the G-20 in the early days of the financial crisis (the 2009 “Pittsburgh Summit”), and notes the results have deviated from those early initiatives.

“We have not had a substituted compliance determination (between the U.S. and Europe) in two years.”

As the head of an international organization that must respect all sides of this particular issue, O’Malia looks to be caught in the middle of the dispute between U.S. and European regulators. “It’s like being a daisy at an elephant dance, standing between the U.S. and Europe,” he says. One concern among regulators is mutual recognition of central counterparties, which is ironic, as it means swaps reform is being held up by a futures issue.

Story Continued: http://jlne.ws/1K4DxYl

Lead Stories

Can bank stock options tell us about the future of the economy?
Michael Neumann – Automated Trader
A recently released research paper offers first-time evidence that in fact they can. “Financial Sector Tail Risk and Real Economic Activity: Evidence from the Option Market,” from Michael Neumann, School of Economics and Finance, Queen Mary, University of London investigates the correlation between option-based financial sector tail risk and future economic activity.
While tail risk-or the risk of an asset or portfolio of assets moving extraordinarily far away from its current price-can be either positive or negative, Professor Neumann specifically explores how negative tail risk, with which most practitioners are concerned, can affect the role of the banking sector in the economy.

Rough volatility: New research helps traders hone their edge
Jim Gatheral – Automated Trader
Financial Industry & Algorithmic Trading News | Automated Trader
How often have we seen graphs like this of the time series of historical volatility? It seems quite obvious that this time series looks very rough, much rougher than a random walk for example. It turns out however that this roughness is an intrinsic property of volatility and not a reflection of noisy estimates.
In fact, research from a group of academics has uncovered a remarkable scaling property of the time series of historical volatility. Since an initial version of the work was presented at the Global Derivatives Conference in Amsterdam in May 2014, the research has garnered substantial attention from both academics and practitioners.

The VIX is getting crushed in a ‘volatility trap’
Jeff Cox – CNBC
The U.S. stock market may be having a roller-coaster year, but you won’t find many screaming investors riding the tracks.
A basic look at the 2015 S&P 500 chart shows a market that has seen a plethora of tops, bottoms and in-betweens in just 3 ½ months of trading, with a 6.3 percent difference between the index’s intraday highs and lows. Point swings in the hundreds on the Dow industrials have been commonplace.
Yet investors aren’t looking for protection—to the contrary, in fact.

This ‘really scares me’ about the market: Top trader
Alex Rosenberg – CNBC
Even though he tends to be bullish, David Seaburg is starting to get nervous about stocks.
Seaburg, the head of equity sales trading at Cowen, is noticing “a lot of complacency in this tape.”
It’s not that investors are screamingly bullish, in a way that would be reminiscent of stock market bubbles. To the contrary, Seaburg observes that it looks like a “tired market.”

How Headline-Reading Robots Are Changing the Marketplace
Adam Warner – Schaeffer’s Investment Research
So, five years later, we find out the Flash Crash was “caused” by one English guy “spoofing” in his basement. Really? Want more evidence there’s little use for us humans without high-speed servers in the marketplace? Here’s a fascinating piece in Slate on The Next Big Thing in algos — news-reading bots that can trade options in a nanosecond

Junk bonds really to blame for Flash Crash
Michael A. Gayed – MarketWatch
When it comes to the news of Navinder Sarao’s alleged role in the 2010 Flash Crash, I’m reminded of the movie “Arlington Road.” In that movie, a big theme is made about how people tend to believe that a single person is the source of why big, bad things happen. By the end of the movie (spoiler alert), Jeff Bridges is blamed by the media as being the sole architect of a terrorist attack, even though it was Tim Robbins and a larger group who were the actual villains in the film.


NSE retains top slot in global index options trade
The National Stock Exchange (NSE) has continued to remain the largest exchange in stock index options trade across the globe, ahead of Chicago Boards Options Exchange. In the Asia Pacific region, Korea Exchange has taken the second slot in index options trade.
The total number of index options contracts traded during 2014-15 stood at around 138 crore, NSE sources told dna.

LSE Chief Says Exchange Could Do Deal With Rival Within Two Years
David Wighton – WSJ
The London Stock Exchange Group is likely to do a deal with one of the other big four Western exchanges groups within two years, according to LSE chief Xavier Rolet.
“Market infrastructure is still a bit of a cottage industry. It is ripe for change. When there is an industry with competitive tension, consolidation tends to be not too far behind,” he said in an exclusive interview with The Wall Street Journal.

Regulation & Enforcement

Spreadsheet and Gumption Were All U.K. Trader Needed to Rig Market
Sam Mamudi – Bloomberg
It only took a spreadsheet souped up with custom enhancements to manipulate one of the world’s biggest markets with a strategy that on some days involved trading billions of dollars’ worth of stock-futures contracts.
According to the U.S. Justice Department, London trader Navinder Singh Sarao earned $40 million from 2010 to 2014. His product of choice: CME Group Inc.’s E-mini futures on the Standard & Poor’s 500 Index, the key measure of U.S. stock prices. He traded so much, the U.S. government says, that he contributed to the flash crash of May 6, 2010, that briefly drove shares into a nosedive that erased nearly $1 trillion in value.

***JB: Did he do it…

‘Flash Crash’ arrest ignites industry scepticism
Rebecca Healey – Automated Trader
Deep cynicism is greeting the news that actions taken by a single trader from a London suburb contributed to a massive US market meltdown.
Yesterday, the US Department of Justice announced the arrest of Navinder Singh Sarao for US wire fraud, commodities fraud and manipulation charges in connection with his alleged role in the May 2010 “Flash Crash,” when the Dow Jones Industrial Average plunged 600 points in five minutes.

***JB:…or didn’t he?

Remarks Of CFTC Chairman Timothy Massad Before The DerivOps North America 2015
Press Release
The growth of the derivatives markets over the last 40 years is really astounding. The sensible regulatory framework created by the CFTC for the futures market was a foundation for that market’s success. It has helped insure integrity and transparency while facilitating growth and innovation. Today we face a similar challenge in the swaps market – we must create a regulatory framework that achieves the goals of transparency and integrity while enabling the market to continue to grow and thrive.
And today, I want to update you on where we stand on creating that framework.

Hedge Fund Push on Swaps Trades Hits Snag With CFTC’s Giancarlo
Silla Brush – Bloomberg
Hedge fund lobbying hasn’t persuaded a key U.S. regulator that the government should step in to curb Wall Street banks’ power over the $700 trillion swaps market.
At issue is a requirement that customers disclose their identities when they buy and sell derivatives on some swap-execution facilities. D.E. Shaw & Co. and Citadel LLC want the Commodity Futures Trading Commission to end the practice, which they say gives banks access to proprietary-investing strategies and discourages trading.


Sell In May And Go Away? Commodities Might See Further Weakness
Press Release – OptionsCity
The old trading adage “sell in May and go away” has some validity as the Stock Trader’s Almanac notes that since 1950 during the May to October timeframe, the Dow Jones Industrial Average has posted average returns of only 0.3% versus an average gain of 7.5% during the November-April period.
In commodities there’s similar phenomenon, noted Macquarie Bank.

Taking advantage of low summer volatility
Jamie Chisholm – Financial Times
OK, so it’s not as snappy as “sell in May and go away”, but “short volatility in April and come back in a few months, probably around July, before it all, possibly, kicks off again in the autumn”, could be just as apposite.


How To Trade Orange Juice Options
Shobhit Seth – Investopedia
Orange juice trading has become popular globally and trading volumes continue to increase. Being one of the world’s most popular fruit juices, orange juice trading attracts a variety of market participants which include the farmers, processors, storage-houses, market makers and arbitrageurs. Multiple financial instruments, like futures and options, are available for trading orange juice. This article discusses options trading on orange juice contracts, trading scenarios, orange juice trading markets and participant profiles, the risks, rewards, and how the determining factors impact option prices for orange juice trading. Orange juice options on ICE futures exchange are taken as examples cited throughout the article.

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