New York & London, June 8, 2010 – With the increasing adoption of options strategies by the buy side and continued volatility steering the options market to record levels of trading in 2010, the US options industry continues to thrive, says TABB Group in a new annual research study, “US Options Trading 2010: The Resurgence of the Broker.” The continuing growth in options trading has attracted the attention of the global brokerage industry, with domestic and international firms seeking to secure a share of the $3 billion in total industry commissions, forecast to rise 15% this year.
According to Andy Nybo, a TABB principal, head of derivatives and author of the new study, US-based brokers aren’t alone in targeting the options markets. “Global options brokers have seen the pot of gold and are building option desks by recruiting seasoned staff and providing deep capital support. Interest is broad and deep, coming from full-service, inter-dealer and agency brokers around the world, eager to increase revenues by targeting emerging demand for options trading at traditional asset managers, as well as hedge funds that survived the volatility throughout the financial crisis.”
TABB says the recent resurgence in volatility will provide positive momentum for the options industry, as the importance of risk management is reinforced and strategies dependent on volatility gain more relevance. This combination of rising assets under management (AuM) and greater volatility bodes well for industry trading volume with volumes projected to rise by 5.6% in 2010. As Nybo points out, this is just the beginning. “Trading volume continues to grow, spreads have narrowed and broker support has never been stronger. The buy side is bullish on options, and so are brokers, inundating their buy-side clients with trading support and capital.”
Focusing on the continued importance of options in buy-side firms’ strategies and to examine traders’ use of technological tools to enhance trading decisions, implement strategies and increase efficiency, TABB interviewed 51 traders at asset managers, hedge funds and proprietary trading firms with an aggregate $2.5 trillion of AuM, trading an average 14.3 million contracts monthly. These interviews were supplemented by conversations with global exchanges, alternative liquidity pools, institutional broker options trading desks, electronic execution desks and independent options trading system vendors.
Strategies to protect position and enhance incomes are becoming more commonplace, Nybo says “especially for asset management firms reaffirming their dedication to improving returns and mitigating risk. The successful implementation of covered call and downside protection strategies has led options traders to adopt these same strategies across a growing number of accounts.” However, he says, the more sophisticated traders are expanding the type and complexity of strategies their firms are using for options trading. “Options-centric strategies that leverage volatility are being adopted by more aggressive hedge funds and, increasingly, more experienced traders at traditional asset management funds.”
OTC options also remain an important tool for options traders, as the ability to customize and create flexible structures outweigh inherent counter-party risk associated with the instruments. Traders looking to execute large block options transactions often look to their favorite dealer counterparty, especially in less liquid names or in times of elevated volatility, he adds. “Although exchange-listed FLEX options have the potential to answer some of these demands, they suffer from a lack of sell side support.”
The importance of providing capital and support is a significant advantage to options brokers as agency and inter-dealer brokers attempt to chip away at their dominance. All but one of the top 10 dealers in TABB’s dealer rankings are bulge-bracket firms. The ability to provide comprehensive sales coverage is critical for options brokers, says Nybo. “It’s not merely for price improvement and provision of capital; buy-side traders are hungry for research on volatility and fundamentals on underlying holdings, as well as color on market-trading activity that can help them to successfully implement trading strategies.”
In this regard, he adds, buy-side traders are not timid. “They’re very clear as to what they expect from their options brokers. They want service; they want access to capital; they want great execution – and they’re getting it through a combination of direct market access, algorithms and over the phone.”
While the continued global uncertainty and lingering hangover from the 2008 crisis present challenges for the future, the US options industry’s maturation during the past two years bodes well for its role in the global financial markets. “Risk management will continue to be a priority for buy-side traders and options appeal as an asset class is only in its infancy,” says Nybo.
The 40-page report with 39 charts can be accessed by TABB Group Research Alliance Derivatives clients and pre-qualified media at https://www.tabbgroup.com/Login.aspx. For an executive summary or to purchase the report, please visit http://www.tabgroup.com, or write to info@tabbgroup.com.
Recent related TABB research includes: European Derivatives 2010: The Buy-Side Perspective on Equity Options, Futures and Swaps; US Options Market Makers: Evolution or Extinction?; US Options Market Structure: The Shifting Exchange Landscape; US Options Trading 2009: Resilience in the Face of Crisis; and Options Liquidity Matrix™, an exclusive monthly report that analyzes execution quality at eight US options exchanges.
About TABB Group
TABB Group is the financial markets industry’s only research and strategic advisory firm focused exclusively on capital markets. Founded in 2003 and based on the proven interview-based research methodology of “first-person knowledge” developed by founder Larry Tabb, TABB Group analyzes and quantifies the investing value chain from the fiduciary, investment manager, broker, exchange and custodian, helping senior business leaders gain a truer understanding of financial markets issues. For more information, visit www.tabbgroup.com.
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