Observations & Insight

Keeping Tabbs on the Options Industry
Sarah Rudolph -JLN

The outlook for the options industry is a lot less sunny than the skies in Miami Beach, if you listen to the Tabb Group’s Andy Nybo. The industry faces major challenges right now, including a lessening of liquidity, widening bid-ask spreads, and market fragmentation, Nybo told the audience Thursday morning at the Options Industry Conference in Miami Beach.

A recent Tabb study found that these are particular problems for institutional traders, he said.

Overall spreads have widened, but the tiering of liquidity has created a bifurcated market in which 75 percent of all options traded are in the top 100 stock names, Nybo said. Those names are actually showing tighter spreads, while in the less-traded names spreads have been as wide as 41 cents per contract.

And those less active names are heavily traded by retail investors, who make up slightly less than half of all options trading. In addition, the Labor Dept. is looking at the use of futures and options in retirement accounts, which could lead to further targeting of the financial industry to raise revenues, he said, adding that regulators have a “mentality that it is all Wall Street’s fault.”



More OIC Coverage
Doug Ashburn – JLN

The 2015 Options Industry Conference is wrapping up right around publication of today’s JLN Options newsletter. John Lothian and Sarah Rudolph, who spent the greater part of the week in Miami, have returned to Chicago. Sarah has filed a number of stories from the trip, one of which can be found above. The final piece, her take on the exchange leaders’ panel (which was moderated by John Lothian), will be published Monday.

Below is a recap of our OIC-related content from this week, in case you missed any of them. Have a great weekend, and on behalf of the rest of the team, I would like to extend Mother’s Day greetings to all of the moms in your lives.


Daily Racing Form, Options Exchange Edition
Sarah Rudolph, JLN
With the U.S. options exchanges numbering a baker’s dozen, it is not an easy task to keep straight all of the names of these entities, let alone the new initiatives, updates and other exchange happenings. Fortunately, once a year we gather them together in one room. This year, that room is in Miami at the iconic Fontainebleau Hotel.

The Options Industry Conference got underway on Wednesday with the exchanges updates panel, where representatives of each exchange tell attendees what’s new and what’s ahead for their exchanges.

Here are some of the highlights from that panel.

Read the full exchange rundown at JohnLothianNews.com


Clearing Evolution: Michael McClain on the changes at OCC

Industry players are gearing up for this year’s Options Industry Conference. One of the key speakers at the event is Michael McClain, president and COO of The Options Clearing Corporation. We talked with McClain in advance of the conference about the changes at OCC and their effect on its resilience and risk management capability. He also looked at securities lending, options education, and the controversy over OCC’s capital plan.
Watch the video »


OIC Conference Preview: BOX CEO Ed Boyle on how the options industry is working to address market challenges

At this year’s Options Industry Conference in Miami Beach, participants will discuss such crucial industry issues as market quality and deteriorating volumes, the implementation of Dodd-Frank and Reg SCI, technology and risk management. The conference is hosted by BOX Options Exchange, whose new CEO, Edward Boyle, spoke with John Lothian News about some of these issues and what’s being done to address them.
Watch the video »


Lead Stories

New Academic Research Finds Options-Based Investment Strategies Outperform Long Stock Strategy
Press Release – OIC
The Options Industry Council (OIC) announced today the release of a new academic research study, “The Performance of Options-Based Investment Strategies: Evidence for Individual Stocks During 2003-2013,” conducted by Professors Michael L. Hemler, University of Notre Dame’s Mendoza College of Business, and Thomas W. Miller, Jr., Mississippi State University. The study, which was supported by OIC, found that some options-based portfolio strategies seemingly outperform long stock and improve the risk-return tradeoff of long equity portfolios over time. The authors presented the results of the study today at the 2015 Financial Advisors Forum held in conjunction with the 33rd Annual Options Industry Conference taking place this week in Miami Beach, Florida.

***DA: It is what we have been saying for years. But far from a guarantee – one must either learn (sometimes the hard way) how to trade options, or trust a professional who already knows.

U.S. treasury ETF traders side with Buffett, Ackman in race to hedge
Callie Bost – The Globe and Mail
Options traders are joining Warren Buffett and Bill Ackman in thinking an exodus from U.S. Treasuries isn’t over.
Speculators have bid up the cost of bearish options on the iShares 20+ Year Treasury Bond exchange-traded fund to the highest level in 15 months relative to bullish ones, according to three-month data compiled by Bloomberg. The ETF, which appreciates with the price of longer-dated Treasuries, has plunged 13 per cent since climbing to a record in January.

***DA: Not a pure directional play, but rather adding a measure of protection against a big move up in yields.

Bill Gross Wasn’t Short Enough German Bonds
Matt Levine – Bloomberg
Gross had been employing a strategy known as a strangle on Treasury and bund futures, selling both puts and calls that would be profitable if the bonds stayed range-bound, but which would cost him if they moved a lot in either direction. I thought it might be fun (for me) to try to deconstruct the transactions. Here’s the Janus holdings disclosure as of March 31.

***DA: The difference between good premium sellers and bad ones? Bad get caught in a move once every five years where they lose eight years of gains. Good ones only lose 2-3 years worth of premiums.

VIX Taken to Cleaners Following Strong Jobs Data
The VIX, also known as the fear index, dropped sharply Friday after data earlier showed the economy added 223 thousand jobs in April. While slightly below the consensus of 228 thousand, the news was a welcome sight after ADP data earlier this week clocked in at only 169 thousand vs 200 thousand expected.

***DA: The final bits of fear are being wrung out of this market.

Options Traders Laying Bets That Wal-Mart Can Rejoin Bull Market
Jennifer Kaplan – Bloomberg
Options investors are speculating Wal-Mart Stores Inc. is about to get some relief from consumers after its worst start to a year since 2009.
Demand for contracts to protect against losses in the stock fell last week to the lowest level in six years compared to bullish ones, data compiled by Bloomberg show. Wal-Mart shares have lost 9.1 percent in 2015 after announcing it would raise wages and a strong U.S. dollar cut into the value of overseas revenue.

***DA: Maybe investors are finally getting the memo that a cut-rate retailer can be profitable and pay decent wages at the same time.

The Ideas Column: Risk worth taking?
James Mackintosh – Financial Times
The basic principle of all financial theory is deeply embedded in the investor psyche: more risk means more reward. It makes perfect sense — why would someone take bigger risks if they did not expect bigger rewards?
The unthinking acceptance of the principle pushes long-term investors into equities by default, perhaps with a cushion of bonds to protect against the bad times when risks are realised.

***DA: More deeply embedded is the notion that risk is nonexistent because the monetary gods will always have your back.

Traders keep bets on Fed rate hike in December, just barely
Ann Saphir – Reuters
U.S. short-term interest-rate futures contracts rose sharply Friday after a U.S. government report showed the unemployment rate fell to near a seven-year low in April, but March job gains were even weaker than earlier reported.

Is VIX Pricing in the ‘Right’ Amount of Uncertainty?
Adam Warner – Schaeffer’s Investment Research
I believe my piece from yesterday implies that options pricing is always “right” in sort of a Nixonian way. President Nixon’s defense once was that if the president did X, then by definition X can’t be illegal, because the president did it. Something like that — it was a little before my time, or at least before the time I had any idea what was going on.
With the CBOE Volatility Index (VIX), I’m afraid I sounded like “volatility is right, because that’s what investors are willing to pay for it.” And that’s not really an accurate description.

***DA: VIX represents the equilibrium level of expectations of volatility over the next month. It is at best a guesstimate given what participants know now.

Options industry conference 2015: balance sheet restraints, exchange controls top tech to do list
A panel of sell-side industry participants told the audience this week in Miami Beach that a pair of operational risk issues continue to haunt options: managing risk-weighted assets and standardized technical controls for exchange venues. While the panel’s topic — operational risk — was a broad one, contributors from Bank of America, Citi, Goldman Sachs, and the Options Clearing Corporation (OCC) argued their primary concerns in 2015 are really just two.

***DA: (1) How do we make money now, and (2) how do we make money in the future?

US Treasury Yields On A Bumpy Ride To The Bottom
Tom Pizzuti and Kurt Hulse – See It Market
In a post back in February, we suggested that long-term bonds were ready to put in a substantial correction. That move now appears to be nearing completion, and it is unclear whether prices will retrace as far as our original target. This is reason enough to keep an eye on US Treasury yields in the weeks ahead. Soon – perhaps within the next few weeks – there may be a moderate-risk opportunity for traders to seek higher bond prices.

***DA: How’s today? Is today good for you?


Bats Wants Better Oversight of Stock Market’s Underpinnings
Sam Mamudi – Bloomberg
Bats Global Markets Inc. wants to overhaul how a key piece of infrastructure in the U.S. stock market is governed, according to Chief Executive Officer Chris Concannon.
The services known as securities information processors, which distribute the official prices for U.S. stocks listed by the New York Stock Exchange and Nasdaq Stock Market, are overseen by representatives from exchanges and a regulator. Brokers and money managers should also have a voice, the Bats executive said Thursday.

Regulation & Enforcement

Europe and US fail to agree on derivatives rules
Philip Stafford – Financial Times
The two main regions for derivatives trading have failed in their latest push to harmonise industry rules, with US and European regulators aiming to settle a long-running spat by the summer.
Talks in Brussels between Jonathan Hill, the European Commissioner for financial stability, and Timothy Massad, chairman of the US Commodity Futures Trading Commission (CFTC), concluded on Thursday, with no agreement reached over the recognition of each region’s rules on clearing houses.

CFTC Proposes to Reduce Reporting and Recordkeeping Obligations for Commercial End Users of Trade Options
The National Law Review
On April 30, 2015, the U.S. Commodity Futures Trading Commission (CFTC) issued a Notice of Proposed Rulemaking that would have the effect of reducing reporting and recordkeeping requirements for trade option counterparties that are neither swap dealers nor major swap participants (Non-SD/MSPs), including energy companies, agricultural producers, and other commercial end users.

Quebec’s regulator warns of increased activity of unauthorized binary options brokers
Maria Nikolova – LeapRate
Quebecois financial markets authority AMF has on Thursday issued a special warning regarding the recent rise of activity of binary options brokers that are targeting investors from the Canadian province, without having the necessary licenses.


Firm58 Manages Exchange-Execution Rates
Press Release – Firm58
Firm58, a financial management software company simplifying trade operations for capital market firms, today announced it now monitors and regularly reports on fees across all 11 equity and 12 options exchanges for broker dealers, including non-exchange trading venues.
As soon as an exchange makes a change to its fee structure, Firm58 is able to analyze and document the difference to all of a broker dealer’s clients. Once the fee change is updated in the rate library, Firm58 clients receive an advisory notice allowing them to examine the change, and to consider their own trade routing and make any necessary adjustments to save cost. By ensuring clients are able to act quickly when fees shift, Firm58 helps brokerage firms route trades strategically and profitability.

Collateral “biggest post trade challenge” – survey
William Mitting – Futures & Options World
Collateral management is the biggest technology challenge facing the back office today, according to an FOW study into post trade technology trends and requirements.
Ahead of FOW’s inaugural FOW Post Trade event on the afternoon of May 11 in London, FOW surveyed delegates on their technology requirements and challenges.


The Risks & Rewards of Penny Stocks
Dan Moskowitz – Investopedia
I could say that investing in penny stocks comes with both high risks and the potential for extraordinary returns, but there would be two fallacies with that statement. One: Most people don’t invest in penny stocks; they gamble on them. Two: Extraordinary returns, though possible in the short term, are nearly impossible when “investing” in penny stocks. These companies are either headed for bankruptcy, highly overleveraged, or nothing more than shell companies for scammers. It’s possible to make money with penny stocks, and there are two ways to do it, but they’re both high risk.

Oil Discovery: Options for Short-Term Income Trades
Good news, oil mavens!
Oil’s up, with crude oil futures gaining 35% from the low in March through late April. The bad news, of course, is that levels are still 48% lower than a year ago. But for option traders seeking short-term income trades, oil options might offer some potential. Let’s take a closer look.

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