More precise usage of options by US asset managers reflects a less-volatile trading environment and has jumpstarted interest in specific instruments, such as weekly options, an annual report from consultancy Tabb Group has revealed.
The report, released this week, shows the buy-side has adapted its trading strategies to incorporate options more than ever, in part driven by lower equity trading volumes.
Speaking to theTRADEnews.com, report author Andy Nybo, Tabb principal and head of derivatives research, said stagnating volatility in the last 18 months has required buy-side firms to be more particular when trading options.
“With compressed volatility, asset managers need to be more precise in their strategies and smarter in the way they trade options instruments, with tighter spreads and strike prices,” he said, adding that institutional investors have expanded usage of analytical tools to support options trading.
The report reveals use of weekly options has skyrocketed in the last year, with the products forming an increasingly important segment of the US options market. In May, options with weekly expirations reached 20% of total trading.
Exactly 50% of US asset managers quizzed used weekly options in their trading strategies, compared with just 11% in 2012. The figures show a shifting attitude to options, bringing institutional investors closer to hedge fund activity in options trading. Hedge funds surveyed in the Tabb report also showed a growth in weekly options use, with 65% of firms interviewed using the products in 2013, compared to 58% last year.
“Weeklies tend to be very liquid options with lots of volume in large-cap names and more actively traded indices, so buy-side firms are looking at these products to take short-term positions and as short-term risk management tools in very liquid instruments,” Nybo said.
He added that use of weekly options around earnings announcements was “explosive” as asset managers used them as a ‘directional’ tool, to express their views over expected company announcements, such as a new product launch.
According to Tabb’s results, 64% of asset managers said usage of weeklies was event driven, with only 18% saying it was for risk management.
Despite this growing uptake of options instruments for the buy-side, Tabb’s report showed institutional investors remain at a disadvantage to other market participants, such as hedge funds, in having the expertise to trade the products.
“Even if they recognise the benefits of options, firms often cannot commit the necessary resources to support options trading. It was clear in our interviews that half-hearted approaches to using options are destined to fail,” the report read.
Instead, asset managers should engage portfolio managers and the investment committee to build the necessary infrastructure to effectively trade options instruments – otherwise, institutional options usage will decline, the report stated.
The Tabb findings were based on conversations with 52 traders at asset managers, hedge funds and proprietary trading firms. Firms participating in the study represent an aggregate of US$6.8 trillion in assets under management.
Another report focused on the US options market, released this month by consultancy Aite Group, has predicted the industry faces significant challenges in the near future.
The report, titled ‘Weather forecast for the US equities options industry: cloudy with a chance of showers’ has suggested that US listed equities options volumes may continue the 13% decline experienced in 2012, due in part to the possible fragmentation of liquidity from a penny spread pilot programme.
Despite this, the report showed that new market participants are increasingly attracted to using listed options as a trading vehicle and a potential source of alpha.
“New product innovations in 2013, such as mini equities options and even jumbo SPY options, may bring about sufficient demand for market growth in the long run,” said Howard Tai, senior analyst in institutional securities and investments for Aite Group.