European Trading at Seven-Year Low as Hedge Demand DropsCecile Vannucci, Alexis Xydias and Nandini Sukumar
Options trading on European shares is falling to a seven-year low as declines in equity volume reduce the need for investors to hedge.
About 858,600 contracts on the Euro Stoxx 50 Index changed hands each day on average this year, on track for the slowest year since 2006, based on data compiled by Bloomberg. Options trading is down 22 percent from 2012 as the region’s shares lagged behind equity-market gains in the U.S. and Japan.
While Europe is emerging from the sovereign-debt crisis, the longest-ever recession and rising joblessness in the region has hurt stock trading, with the gauge of the 50 biggest euro-area companies poised for its slowest year since 2005. Regulatory changes have made options trading less appealing, according to Andy Nybo, head of derivatives research at New York-based Tabb Group LLC.
“There hasn’t been a great conviction on a strong European rally,” said Alvise Munari, Morgan Stanley’s global head of equity derivatives distribution and financial engineering in London. “There would have to be a catalyst, either a correction or a significant acceleration of the feeling that there is a recovery under way for this to change.”
The European Central Bank forecasts a 0.4 percent contraction in the economy this year before the region returns to growth in 2014. The Euro Stoxx 50 is up 8.6 percent in 2013, compared with an 18 percent surge in the Standard & Poor’s 500 Index and 38 percent gain in the Topix.
A daily average of $15 billion in shares have traded during 2012 and 2013 in Germany, the U.K. and France, Europe’s three largest equity markets. That’s the lowest level ever, according to data compiled by Bloomberg going back to 2003. The number of Euro Stoxx 50 shares changing hands has dropped 18 percent this year to 715 million on average, according to the data compiled by Bloomberg.
The strength of the U.S. economy and its liquid markets are causing global investors to prefer trading stock options on American companies over European ones, Tabb’s Nybo said. Trading of S&P 500 contracts has jumped 17 percent to about 823,000 this year, the most ever, data on average daily volume compiled by Bloomberg show.
“The European economies are a little bit slower to emerge from this recession,” Nybo said Sept. 9 by phone. “There’s a lot of moving parts in Europe. There’s a lot of different regulatory initiatives that impact how, why and where derivatives are traded.”
Mark Harris, who helps oversee $1.1 billion as a fund manager at City Financial in London, said he’s using options to protect against volatility and potential equity losses. He said he’s looking for signs of strength in China’s economy and more details on the Federal Reserve’s plan to reduce bond purchases before becoming more confident.
“We haven’t seen a correction for a long time,” Harris said on Sept. 9. “I’m trying to hedge some of that volatility. I need more confidence on what policy will look like.”
Executing an options trade is more expensive in Europe because there is no centralized clearinghouse for equity derivatives. Deutsche Boerse AG’s Eurex and Liffe of NYSE Euronext are the two biggest equity-derivatives exchanges in Europe and both have their own separate clearinghouses. The Chicago-based Options Clearing Corp. guarantees trades in U.S. options and futures.
“We have the OCC and central clearing in the U.S., so the fact that they are fungible also means the market is more competitive,” Eric Noll, who heads Nasdaq OMX Group Inc.’s transaction services in the U.S., said in a phone interview. “There is a concerted effort for the industry to educate the public, so over time that’s had a substantial impact.”
A total of 11 European Union states have agreed to a financial-transaction tax, known as the FTT. Stock and bond trades would be taxed at a rate of 0.1 percent and derivatives at 0.01 percent with some exemptions for primary-market sales and trades with the ECB.
EU lawyers are clashing over whether the proposed tax is legal under governing treaties. The final shape of the tax and the way it will be imposed remain to be decided.
“Clearly, the FTT affected volumes,” Alan Grigoletto, vice president of education for the Chicago-based Options Industry Council, said in a phone interview. To have more options trading in Europe, “you are going to have to see a reduction in the punitive taxes that have been placed on the financial community, and also education,” he said.
Nasdaq is betting equity derivatives will drive profit in Europe as greater transparency draws in more investors. The exchange operator bought a 25 percent stake last year in cash equity and equity derivatives trading venue The Order Machine, or TOM. The Dutch company said on Aug. 15 that it processed its 10 millionth contract.
“There will be growth in Europe,” Ed Provost, the president of Chicago-based CBOE Holdings Inc., said in a phone interview. “It’s the second-most advanced area in terms of the use of options. There is definitely demand.”
The VStoxx Index, which measures the cost of Euro Stoxx 50 derivatives, fell 0.1 percent to 18.41 today, leaving it 5.5 percent below the average for the past year. The gauge has slumped 22 percent since reaching a two-month high on Aug. 30.
“Investors have gone out of equities and have not come back yet,” Lex Van Dam, a fund manager who oversees $500 million at Hampstead Capital LLP in London, said in a phone interview yesterday. “Volatility keeps going down. It is getting to buy territory, but we’re not buying.”
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