On October 15, 2014, CME Group’s overall volume set a new daily record of more than 39 million contracts. About 7.3 million of those contracts were in options, also a record.
A convergence of geopolitical and policy factors brought more volatility into the market that day – a trend that continued through most of the 4th quarter. However, in options, the trend has been moving north for a much longer period. You can see this in the following infographic, which highlights the remarkable growth of options as a risk management tool.
Post-financial crisis, we’ve seen the popularity of options grow across all asset classes, from around 30 million total options traded monthly five years ago to around 50 million monthly in 2014 – an average daily volume of more than 2.5 million in 2014.
To explain the growth in the graph, it’s no longer enough to discuss the fundamentals of the moment – though those have certainly played a role. The trend growth in options has been so steady for so long, we have to ask a more philosophical question: What has changed about the habits of market participants that makes them want to trade options?
There are many reasons to trade options. They offer the right, but not the obligation to enter into a specified futures contract. Therefore, they come with a lower margin cost, and are also a more flexible way to manage exposure to all kinds of markets.
Importantly, the growth in options over the last few years comes from all asset classes represented on CME Group’s markets – we’ve seen steady growth in everything from agricultural products to interest rates. The trend continued in November when volume in every asset class grew at least 7 percent over November 2013 volume. Energy options led the way with a 42 percent climb.
Options have been around in all of these markets for quite some time – the benefits of more flexibility and lower margins present from the beginning. What has changed is the size of the options toolkit, and the accessibility of that toolkit.
This is most apparent by the popularity of weekly options, which provide a shorter term alternative to standard options. Weeklies allow users to pinpoint their risk around a specific economic event, and manage their risk more precisely. For example, the release of monthly employment data often leads to volume surges in E-mini S&P 500 Weekly options on the respective Friday. The overall recent environment of volatility has only expanded the use of weekly options in all asset classes. Energy and FX had record volumes in weekly options in November.
For traders, perhaps nothing has changed the view of options as much as the vastly expanded role of electronic trading. Until the last few years, options were traded primarily in the trading pits because of the many complex strategies involved. Available trading technology simply didn’t allow for things like trading options spreads. That has changed. Total monthly options volume at CME Group was traded more than 50 percent electronically for the first time in 2014, with a record 54 percent of options trading on the screen in November. For some markets, like Livestock, the percentage of electronic options has moved as high as 80 percent.
The technology behind electronic trading of options has advanced, particularly with Request for Quote (RFQ) functionality now built into CME Globex, our electronic trading platform. The availability of RFQs makes more complex strategies in options, like trading spreads, available to market participants around the world right on their computer screen. Sending an RFQ creates a unique and tradable instrument on CME Globex and requests that market participants show bids and offers on the specified instrument (similar to a broker calling into a pit asking for a market). There is no obligation to trade on the submitted RFQ.
This has made trading options a viable risk management tool to people who might previously have traded only futures electronically, or stayed out of the market altogether. In addition to easier access, trading options on-screen also brings about a heightened level of transparency, where you can see your order getting filled on screen. In the monthly data for November, metals options (gold, silver and copper) saw a particularly strong rise in the use of RFQs:
As I’ve written before, it’s a brand new world for options. They are especially useful in times of increased volatility, like we’re seeing now. But even when volatile times recede, new electronic strategies embraced by more market participants may make options growth a permanent fixture of derivatives markets.