An influx of retail investors in the derivatives market is driving new trading platforms and specially tailored contracts. Jonathan Watkins looks at how exchanges and online platforms are tapping into and fuelling this growing demand.
For nearly a decade, the Korea Exchange was the most actively traded derivatives exchange in the world, driven almost solely by retail investors using its KOSPI index options.
The small contracts hit nearly 300m trades a month at their peak, before a politically-fuelled mandate required the exchange to increase the multiplier five-fold, forcing those retail investors out of the market.
While that kind of popularity could be hard to mirror in the rest of the world, KX showed the potential harnessed by retail investors if an exchange gets the formula right.
The Dubai Gold and Commodities Exchange (DGCX) launched mini Indian Rupee futures last March, which have gone on to become the second most actively traded contracts on the exchange.
Elsewhere, Hong Kong Exchanges and Clearing (HKEx) lists two popular mini Hang Seng index derivatives and NYSE Liffe US has seen strong retail trading on its mini MSCI index contracts.
Indian exchange MCX, the Singapore Exchange and Johannesburgs Safex platform are also among the growing list of exchanges listing these mini contracts.
Ramping up activity
These products often a fifth or tenth the size of a standard contract - require traders to commit less capital, making them more attractive to retail investors.
Retail traders are also increasing their use of US equity options and last year accounted for almost a quarter of trading, according to Tabb Group.
Retail investors have always maintained an integral role in the US options market but in recent years theyve ramped up their trading activity, says Andy Nybo, Tabbs head of derivatives research and author of the report.
Brokers tell us theyre seeing strong revenue gains and growing demand from retail investors who are seeking to become more intimately involved with options trading strategies.
US exchanges have moved aggressively to tap this growing interest by launching various mini-options contracts.
They launched in March five contracts for retail investors that allow clients to gain exposure to a handful of blue chip US equities without the huge capital commitment of trading the underlying stock.
The mini options are a tenth of the size of standard products and give investors exposure to options on higher priced equity and exchange-traded fund products.
Social trading communities
Within a couple of months of the launch, the contracts began to gain traction reaching volumes of nearly half a million, and have seen a solid growth since.
In December, volumes across the five major underlying stocks reached almost 700,000, with Apple seeing the lions share of the action.
As more retail investors get familiar with mini options we expect to see steady increases in mini activity, Jeromee Johnson, head of BATS Options, told FOW.
With the stock trading around $558 a share - as of January 15 - more retail investors are likely taking advantage of the minis on Apple without having to commit as much capital as they would with a standard contract.
The mini-sized contract is likely also able to construct a better hedge for those with current small AAPL positions.
Nybo said he expects to see greater use of US options by retail traders as well as more strategies from the exchanges.
Rising demand from European retail investors has also fuelled online trading platforms such as Saxo Banks TradingFloor.com, which launched this month.
As FOW reported last week, the Danish online specialist has gone live with a new social trading community which it has dubbed The Facebook of Trading.
The website allows retail investors to track the activity of professional traders, equipping a new breed of investor to trade these markets.
Education, education, education
There is a big trend towards understanding what is going on the market, how you allocate your resources and your risk, Kim Fournais, the co-CEO and co-founder of Saxo Bank, said to FOW.
That trend is here to stay. I dont think the kids of today will use banks the way their parents did, I think the internet is here to stay and futures and options allow you to take any kind of risk you want.
Other platforms capitalising on the rush towards these social networks include Cyprus-based firm eToro, ZuluTrade, myFxBook and Currensee.
The communities feature real traders and offer an insight into their performance and trading history across multiple assets.
Saxo Banks site also allows traders to posts comments, discuss ideas, and follow each other but there is always the risk that investors do not fully understanding the complex instruments they are trading.
Some institutions have sought to counter these concerns though by launching educational programmes enabling investors to learn how to trade derivatives.
Saxo Bank plans to launch its own online academy later this year.
It is very much about education, because you would never advise anyone to start trading futures or options without understanding what they are doing, added Fournais.
So that educational effort is important and we work with exchanges on that.
Fournais said Saxo Bank had been working with major derivatives exchange CME on educating the markets.
The Options Industry Council (OIC) has also been proactive in launching educational programmes, offering courses and seminars on the complex products.
The OIC launched a new mobile application for iOS devices earlier this month allowing users to study strategies and instantly connect to the investor services live help centre.
Retail investors continue to contribute to a growing derivatives market, and platforms are adapting to meet their needs through new product launches.
Equipped with sufficient knowledge of risk and the uses of the products, those numbers should continue to rise as platforms tap into that demand.