In the wake of the MF Global and PFG scandals, many derivatives trading firms have been paring back their resources or “restructuring,” and volumes in equity options, among others, have come down. However, amid the bad news there are some underlying trends that bode well for the industry, according to Robert Fitzsimmons, CEO of the startup online futures broker Optionshop.
The firm is taking advantage of both the trend towards electronic trading of options on futures and the interest in commodities among retail investors. Optionshop is a Chicago-based firm founded by OptionsCity, a professional market making technology platform in the futures and equity options space, and Third Stone Partners, the private investment arm of futures trading firm Third Stone Capital. It plans to launch January 7 and will specialize in the execution of options on futures.
“The founders realized that retail investors and traders have had access to equity markets for years, but that in spite of the huge growth and electronification of the futures markets, there weren’t any systems out there designed to give professional quality tools to the retail participants who wanted to trade those products,” Fitzsimmons said. “So Third Stone and OptionsCity decided to devise their own system, and they approached me to spearhead the effort.”
Their target audience includes people who are currently trading futures and want to expand into options on futures; equity options traders looking for larger tick sizes and more favorable tax treatment, and “your traditional retail equity trader who is looking for diversification in non-correlated asset classes,” Fitzsimmons said.
Options on futures were primarily traded on the floor but have been migrating to the screen. This offers the perfect opportunity for individual investors to start trading these products, he said.
One advantage of trading options on futures electronically is that, unlike on the floor, a trader is not wedded to one pit.
“I started out in bond options but I never would have gone over to the wheat or the beans. I had no idea how they traded or what their tick size was,” he said.
Fitzsimmons said the firm had an advantage in creating their electronic platform in that they were starting with a “green field” — building a brand new platform from scratch rather than being saddled with older architecture or infrastructure, or having to cater to only a certain clientele. He said the platform is one that sophisticated options traders would be happy to use but is also intuitive enough for a novice. It uses cloud-based technology, and is a downloadable, thin client. It offers RFQ functionality, transparency, the ability to create spreads and enter spreads and competitive rates. Optionshop does not charge for the system itself; it makes money through transactions alone.
“We haven’t seen a strong sophisticated retail platform out there before this. It was built by traders the way they would want to use it, and we’ve gotten a very good response in terms of the functionality we have,” he said.
The firm also feels that their timing is good because the world is in the middle of what Goldman Sachs recently called a “renaissance” in commodities, in which prices may not rise as much, but global economic improvements will create demand for raw materials. Goldman Sachs recommended that investors be overweight in commodities in the coming year.
“There has been a lot of money poured into poorly constructed commodity ETFs recently, and there are some very interesting products coming out, such as the CME Weekly options on commodities, which allow you to gain exposure to events like crop reports without having time decay work against you,” Fitzsimmons said.
One of the factors boosting interest in commodities is the desire for diversification in the current climate of uncertainty about the effects of monetary policy.
“What [the U.S. Federal Reserve and other central banks] are doing right now globally is an experiment,” Fitzsimmons said. “We’re printing a lot of money. The Fed just announced they will continue to buy longer term Treasuries. Our balance sheet [in the U.S.] will be upwards of $4 trillion, so we are in uncharted waters here. Bernanke is an exceptionally capable person and he’s doing the right thing, but these are unprecedented steps we are taking. How do you unwind the $4 trillion of long-term debt?”
Fitzsimmons is not an alarmist, and he doesn’t think anyone should exit the markets, only that they should take steps to protect themselves by diversifying into commodities and futures. The goal of his company is to make investing in commodities and futures more mainstream. Options on futures were not readily accessible to individuals until recently, or if so they were very expensive, he said. Now, for example, an individual worried about future inflation can buy puts on Treasuries and use spreads to further limit risk and finance some of his positions. The cost of exposure is no longer prohibitive for retail traders. And options on futures can give exposure with more limited risk than straight futures, he said, because there are so many different kinds of strategies available.
Educating individual investors is crucial, of course. The firm’s web site, which recently went live, offers videos and other material that walks novices through concepts such as: What is a future, What is a commodity and how to use call and put option spreads. The firm also plans to roll out “a lot more” educational material on the site.
The biggest challenge Fitzsimmons and Optionshop face is restoring customer confidence after the black eye dealt to the derivatives industry by MF Global and PFG.
“I started in the industry back in ‘85 and the concept of customer segregated funds was sacrosanct. You would never contemplate doing anything with that money,” he said. “For over 150 years nothing ever happened to customer money, and then in one year we had two major crises.
“I think more steps can be taken and we are looking at alternatives right now. That’s the number one issue now — it’s about getting the retail customer comfortable with the concept of customer segregation and the integrity that goes behind it. We think if we help to educate them about futures and options, they will be more inclined to incorporate the products into their portfolios.”
Optionshop Fact Sheet
Robert Fitzsimmons, CEO
Options on futures execution
Why they feel they are different:
The platform is custom-built for options on futures, offers low cost access to CME Globex, and is a cloud-based, downloadable thin client with an innovative spread quoting feature.