Short vol losses a cautionary tale for using leverage; EU probes UK tax treatment of commodity derivatives; Bull market birthday

Mar 9, 2018

Observations & Insight

Miscellaneous Notes for March 9
Spencer Doar – JLN

A chunk of the JLN crew will be down in Florida for FIA Boca from Monday through Friday. We have a ton of content lined up with all sorts of finance and technology luminaries – the next month is going to be a torrent of insight and perspective from all corners of the industry. If you are not around, the FIA will be broadcasting some of the key sessions with recordings available after the fact. Just go to FIA’s Boca page.

Speaking of next week, our episodes of “The Spread” will resume, ideally with a special sunny backdrop. What with the flu knocking me out for two weeks (yeah, it was the bad one), and then a trip out of the country for a wedding, 2018 thus far sports a spotty track record. As the aura of ill health no longer lingers over my head and my trips are done, prepare yourself for more regular options snark.

Spot Trading has closed its doors. 

According to newly released Tabb/Hanweck Options Liquidity Matrix covering February’s trading activity, the industry averages for bid/offer spread was $0.356, trade size was 15.7 contracts and trade value was $7,463. Specifically, the smallest bid/offer spread went to Cboe C2 ($0.14), most contracts per trade went to OMX PHLX (24.8 contracts) and the largest average trade value went to Cboe ($23,125). Also, in line with February 2017, penny options accounted for 70 percent of the total options volume.

CFTC Chairman Giancarlo was questioned by lawmakers on a variety of subjects when testifying about the CFTC’s proposed budget. Here is his written testimony. The budget request is $31.5 million more than last year’s as the agency wants to prepare for the digitization of futures markets. (Seems a bit late to the game on that, but, hey, better late than never?)

Martin Shkreli got 7 years for securities fraud. His attorney was pushing for 18 months, while the prosecution was seeking 15 years.

Trump’s tariffs have been announced – now seemingly every allied nation is seeking exemptions. If this trade war comes to fruition it at least looks like it won’t be a world war…

Lead Stories

Short volatility trading losses a cautionary tale for using leverage
Saqib Iqbal Ahmed – Reuters
Excess financial leverage more than recent stock market gyrations, experts say, was behind the derailment of several popular investment strategies that employed options and futures to bet on low market volatility, seemingly giving derivatives a black eye.

****SD: Eric Metz, chief investment officer at SpiderRock Advisors had this to say about LJM’s blowup – “If you were to remove the leverage component, they might not have been hurt all that bad at all. In fact, they might have been up in February because the market recoiled back.” Recall that LJM is being sued by Wells Fargo over missed margin payments. (Likely facing some client suits, too.)

EU probes UK tax treatment of commodity derivatives
Philip Stafford and Rochelle Toplensky – Financial Times
The EU is investigating whether Britain has failed to respect single market laws by not imposing enough tax on commodity derivatives trades, according to the UK Treasury.
At present, Britain applies no VAT to derivatives transactions in spot, futures and options on commodities contracts, if they are traded on an exchange. The European Commission on Thursday began “infraction proceedings” against the UK for that tax treatment.

****SD: Other sources – FTSE Global Markets

Bull market aging but still has juice to break record
Chuck Mikolajczak – Reuters
The bull market for stocks turned nine years old on Friday and, despite being long in the tooth, appears poised to set the record as the longest in history, buoyed by global economic growth and stronger company earnings.

****SD: What variety of juice? Is it sweet or bitter?

IOSCO consults on recommendations to help trading venues manage extreme volatility
The Board of the International Organization of Securities Commissions (IOSCO) is seeking feedback on its proposed recommendations to assist trading venues and regulatory authorities in the implementation of mechanisms to manage extreme volatility.

Lloyd Blankfein Prepares to Exit Goldman Sachs as Soon as Year’s End
Liz Hoffman and Joann S. Lublin – WSJ
Lloyd Blankfein is preparing to step down as Goldman Sachs Group Inc.’s GS +1.54% chief executive as soon as the end of the year, capping a more than 12-year run that has made him one of the longest-serving bosses on Wall Street

****SD: A Goldman guy stepping down who isn’t in the government?! Now this is news. Reuters here.

Lira’s Record Slide Against Euro Leads UniCredit to Options Bet
Constantine Courcoulas – Bloomberg
The Turkish lira stands to weaken further against the euro and traders should bet on it via the options market, according to UniCredit SpA.

Exchanges and Clearing

Deutsche Boerse chair Faber stands for reelection amid board revamp
Deutsche Boerse’s (DB1Gn.DE) chairman Joachim Faber will seek to stay on for another term, the German exchange operator said on Friday, as it announced a revamp of its board of directors.

Why Cboe Global Markets Stock Fell 17% in February
Motley Fool via Fox Business
Cboe was hit by two phenomena in the month of February: fourth-quarter 2017 earnings that slightly missed analyst’s expectations and investors’ misgivings over fervid trading in its proprietary VIX (Cboe Volatility Index) instruments.

On the recent fixed income high, Eurex’s bond index futures and other innovations
Eurex Group
…Another innovation that support market participants in the context of the elections in Italy are BTP options. Prior to the listing at Eurex, these instruments were only available as OTC products to a subset of investors. BTP options extend hedging and trading opportunities by making the volatility in the long-term maturity range of the Italian interest rate curve tradable. Since the launch in October 2017, turnover was at 210,000 contracts. ADV in February was nearly 3,500.

Amendment To Exchange Rule 402, Criteria For Underlying Securities, To Modify The Criteria For Listing Options On An Underlying Security
MIAX Options
MIAX Options has received approval to amend Exchange Rule 402, Criteria for Underlying Securities, to permit the listing of an option on an underlying covered security that has a market price of at least $3.00 per share for the previous three consecutive business days preceding the date on which the Exchange submits a certificate to the Options Clearing Corporation (“OCC”) for listing and trading.

NZ Exchange Seeks Scale Through Strategic Alliances
NZX provides a further update on its refreshed strategy and delivery plans, announcing its intention to progress strategic alliances with global exchanges in order to increase its connectivity and global scale.



Regulation & Enforcement

Keynote Address by Commissioner Brian Quintenz before the DC Blockchain Summit
…I want to start with a story about my childhood. I have a fraternal twin brother. Growing up, we were pretty competitive – academically, socially, and athletically. One of the sports we both played was tennis. As some of you know, amateur tennis at the juniors, high school, and college level is kind of a unique sport in terms of its rule enforcement. The players themselves act as the referees. But if you think about the landscape of competitive tennis, as the seriousness of the sport and the consequences of winning increase, and the players become professionals, umpires ultimately are called in to officiate the game. The incentives become too skewed for a player to make the right call in a tight situation. I believe we are at that same point with regard to cryptocurrency exchanges where millions, if not billions, of dollars’ worth of products are transferred on a daily basis. Some level of independent officiating is now required.

****SD: A solid speech with the full regulatory lowdown on bitcoin derivatives and oversight.

Maybe the SEC should investigate February’s wild market moves
Bob Pisani – CNBC
It has been one month since the market bottomed on Feb. 9. It was a wild week, one for the record books.
The volatility index, the VIX, went from 17 to nearly 50 in a couple days. The S&P 500 dropped 10 percent from its Jan. 26 all-time high to the bottom on Feb. 9.
But the event most seared into trader’s minds was the 1,600 point swing in the Dow Jones industrial average on Feb. 5 (a 6 percent move), particularly the roughly 1,000 point drop in the late afternoon.
What happened, and does it warrant some kind of investigation?


The Big Crunch: Traditional Tech’s Great Contraction
Anthony Malakian and James Rundle – WatersTechnology (SUBSCRIPTION)
In a matter of two months, the vendor landscape in the capital markets has changed dramatically with four major acquisitions, notably led by Temenos’ proposed purchase of Fidessa and the Thomson Reuters – Blackstone tie-up. Anthony Malakian and James Rundle spoke with over two-dozen industry experts to examine what this could mean for the industry going forward.


Technical Analysis or Witchcraft?
Highly Evolved Vol
I’ve been thinking more about technical analysis. Not so much how to do it, but more about what it actually is. Some of it can be tested scientifically, but a lot can’t (for more on this distinction refer to the excellent book by David Aronson, “Evidence-Based Technical Analysis: Applying the Scientific Method and Statistical Inference to Trading Signals”). So TA isn’t science, but to therefore conclude it is just garbage seems like giving up and going back to a lazy binary classification.

Trading Mechanically
Sage Anderson – tastytrade blog
Generally speaking, “mechanical trading” refers to a methodical approach to portfolio management. This is particularly important when trading volatility, because this strategy relies heavily on statistics and probabilities.


Behavioral Finance Discussion at Cboe RMC
Russell Rhoads, CFA – Cboe Blog
Stacey Gilbert from Susquehanna and Ilya Feygin from WallachBeth Capital teamed up to talk about Behavioral Finance at Cboe RMC today in Bonita Springs, FL.


Big Positioning Changes In Silver And VIX Futures
Movement Capital – Seeking Alpha
This article outlines how traders are positioned and how that positioning has recently changed. I break down the updates by asset class, so let’s get started.

View of Dalio’s Europe Bet Is Misleading, Says Bridgewater Research Head
Katia Porzecanski and Brandon Kochkodin – Bloomberg
The head of investment research at Bridgewater Associates, the world’s biggest hedge fund, said the perception of the firm’s recent wagers against certain European equities is off-base.

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