By Catherine Clay, CEO of Livevol
Yesterday, I wrote about the increase in option volumes from “Mom and Pop” traders. Today I want to note the increased trading volumes originating from independent option advisers.
Before 2004, many advisers did not trade options, saying they were too expensive and complex. But recently, especially after 2008, adviser use has grown tremendously, spurred on by a greater understanding of options, lower transaction costs, tighter bid/ask spreads, and increased ease of execution.
Risk management, however, seems to be the primary driver for most advisers. That’s what the Options Industry Council (OIC) reported in a recent white paper titled “Tales from the Front.” In its research the OIC interviewed a diverse set of advisers and found that the number-one reason advisers gravitated towards options was risk management. Many of those advisers were disappointed with how many of the “defensive” asset classes performed during 2008/2009, and wanted something more reliable.
Patrick Hejlik of Fourth Quadrant Asset Management in Northern California put it aptly when he said that “options are an exceptional tool, not only because you can potentially create more income but because it provides our clients with a truer avenue towards real diversification.”
However, risk management is not the only reason advisers seek out options. Many use them to create income and help executives manage concentrated stock positions as well.
All of this being said, at Livevol we have a wide range of clients who are advisers. Some are more sophisticated than others, but most of them use the strategies listed below:
Covered call: Whether selling calls against a broad index or a single stock, this classic never gets old.
Buying protective puts: Everyone loves a good insurance policy. When buying puts you get protection from a downward spiral and a bonus from, in essence, buying future volatility exposure.
Collar for concentrated positions: This strategy is especially popular with advisers whose clients want to protect concentrated stock positions. By combining the call selling strategy with a protective put purchase, you can greatly reduce the cost of protecting a client’s stock position and tailor it to a specific timeframe.
Selling puts on hard-to-borrow issues: This is a lesser-known gem that more advanced advisers use to establish a long, biased position on an underlying security.
Whatever the reason is risk management, income, protection or some combination, options trading by advisors is definitely on the rise. We expect that in the near future, it will be unusual for advisors NOT to trade options, rather than the other way around. This can only further expand the market and bring the benefits of options trading to more people.