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The London Stock Exchange Group took on May 31 another big step in its plan to expand its equity derivatives suite by launching weekly options on the FTSE 100, the first weeklies on the British blue-chip standard.
The weeklies went live backed by market-maker SIG Susquehanna, one of the world’s top liquidity providers, as well as a swathe of institutional and retail brokers.
The LSE said the launch was a response to client demand for a London-based product as weekly options have in recent years become a popular hedging tool in the US where they have established themselves as an alternative to the standard monthly options contracts.
Massimo Butti, head of business development at LSE Derivatives Market, said: “The introduction of weekly options on the FTSE 100 index is an absolute first for this index and part of the strategic plan to offer a broader suite of derivatives products listed on the LSE. No other exchange is offering FTSE products offers weeklies.”
The weekly option contract is the first that follows the FTSE 100, the main British index, and taps into latent demand for a new way of trading volatility on the FTSE benchmark, said Butti.
“The launch is in response to client demand and reflects a cooperative effort with some of our members. Liquidity providers had approached us with a compelling business case in support of the launch the weekly options on the FTSE 100.”
He added: “The result at launch is the commitment of one market-maker and two hedge funds to trade the product. Sell side institutions have also been active in promoting this product before launch and some of the largest names in the industry will offer it to their clients from day one.”
Butti and his team are keen to increase the number of market-makers on the product, mindful of the fact that these liquidity providers can be crucial to the success of new contracts.
He said: “In addition, we are talking with another market-making firm who would like to be involved in the market and there are others that are standing by, waiting to see how liquidity builds. For market-makers, there will be an incentive scheme that makes it free to trade and offers a share of revenue.”
The LSE prefers to incentivise trading partners by offering them a revenue share on new ventures rather than rebates, which is typical from some other large exchange groups.
Butti added: “Weekly options are an interesting product. They have specific characteristics not available in longer-dated options. Because they are introduced every week, they have very small time value and therefore small premium. They are more reactive to changes in the market prices and volatility and are therefore a convenient way of buying protection as well as taking advantage of events, expected or unexpected, with more precision.”
The head of business development at the LSE derivatives market said the contracts are also attractive because they are priced some 30% lower than established rival products taking into account execution and clearing fees.
Butti said: “We have also introduced a £500 trade fee cap for on screen and off screen transactions.”
He added: “Counterparties trading on or off-exchange and clearing with LCH can also benefit from cross-margining weekly options against other FTSE derivatives cleared through LCH.”
The contract is also interesting to the LSE because it has proved elsewhere popular among retail investors and day-traders.
He said: “The weekly options product appeals to a wide-range of users and where the product has become established it is widely traded by both institutional and retail investors. The volume on the FTSE MIB weekly options listed on our Italian market for example, is about 30% retail and 70% institutional. In the US, the split on the S&P weekly option is about 50-50 retail and institutional.”
“We have engaged with the retail brokers and some of them will be live from day one. Others will be watching to see how liquidity builds,” Butti added.
The weekly is part of a bigger push by the LSE to stimulate trading in derivatives based on the FTSE 100.
Butti said: “There is a real opportunity here. If you look at the ratio of notional trading against the underlying, trading on the FTSE 100 is lower than the FTSE MIB or the DAX. If you look over the past six years, the ratio between notional volume and cash on the FTSE 100 has barely increased, whereas the FTSE MIB or the EuroStoxx have grown steadily. With that in mind, there is a significant prospect of extracting value in the FTSE 100.”
And the LSE is already looking at other opportunities for weeklies, according to Butti.
“In terms of extending the format, we will see how the current weekly option develops, but we could look to develop the weekly option to single stock options. It is possibly not relevant for all, but it could work for the most liquid underlying stocks.”
The LSE has modest expectations of trading in the early days. “In the first weeks, the market-makers will first need to find their feet. People have to get familiar and comfortable with the product. It will likely be a slow burn,” Butti said.
But the group’s ambition is clear. “We are focused on growth in the market as a whole. In the US, weeklies account for 30-50% of the total options index volume, whereas in Europe the number is 8-10%. There is definitely room to grow,” said Butti.
About the London Stock Exchange Derivatives Market
London Stock Exchange Derivatives Markets, launched in 2013, offers member firms new and innovative products, alongside a leading international marketplace for Russian Depositary Receipts, Index and Dividend derivatives. It also operates a linked order book model with Oslo Børs to offer primary market Norwegian liquidity as well as trading of futures and options on the FTSE 100 Index and other UK stocks. In 2015, Turkish equity index derivatives products on the BIST 30 Index, Turkey’s leading index, were also made available to trade.
London Stock Exchange Derivatives Market
Telephone: + 44(0) 20 7382 7650