From the October 01, 2009 issue of Futures Magazine • Subscribe!

Getting your fill: Option spreads


A good quote system is needed to ensure the accuracy of the execution. Many traders are not aware that the displayed option quote is the last-filled trade and may or may not be anywhere in the ballpark of where the market currently is. The trader must be aware of whether the quote system is streaming (real time) or snapshot (has quotes that must be manually refreshed) with regards to
option prices.

It also is beneficial to set up the bid/offer data for the underlying futures contract within close proximity of option quotes. With these data close at hand, the trader can determine if the price placement of the bid and offers is in sync with the current market, allowing for adjustments to keep pace with market volatility and dynamic order flow.

A trader in the electronic markets does not have the luxury that open outcry brokers have of seeing when a large institutional house shakes up the futures and options pit. The closest thing the electronic markets might have would be a market-depth feature that displays the quantity of contracts at price intervals above and below the current bid/offer levels. This could offer clues as to where institutional positions may be setting up, resulting in increased option volatility that may increase or decrease the chances of an order being filled.

Electronic option market traders should consider a similar strategy that applies to open outcry: Tighten up the market rather than joining the current bid or offer posted on the screen. In many cases, just as in open outcry, the bid/offer quotes are the result of market makers who may have little client paper on hand that has real interest in being filled. The electronic markets offer an even greater hurdle when you join the current bid or offer: You will have little, if any, indication of where the order is sitting within the queue, or where the order sits in line as it waits to be filled.


One market whose options offer some of the best elements of electronic and open outcry is the E-mini S&P 500. During the trading day, the options are some of the most liquid. The bids and offers are set primarily by traders, not market makers, so price action is especially fluid. The price action on the underlying futures contract, even though it is traded electronically, offers cues on volatility and price action via the CME Group pits, so traders can see if institutional investors could be stepping in to hit with potentially market-moving activity.

There are many order entry platforms that have streaming quotes and include accurate bid/ask spreads on their option chains (see “Depth of view”). Traders can quickly fill each leg in with just the click of the mouse on most of these platforms (for example, if the trader wants to create a bear put spread with a naked leg in the E-mini S&P).

In this trade, the trader is buying the 960/930 bear put spread and selling the 1000 call as the naked leg. The trader would buy the 960 put at the ask of 3325, and then sell the 930 put at the bid, receiving 2200. He also would sell the naked 1000 call at the bid,
receiving 1700.

To calculate the cost, you simply subtract the credits of 39 points (short options) from the debit 33.25 points (long option) and tally the difference. In this case, the trader would receive a credit of 5.75 points, or in E-mini speak: $50 x 5.75 = $287.50. Of course, what the final credit is depends on the trader’s transaction costs, which are debited from the credit.

The new electronic world has many benefits, but there are still a few areas where the organic markets are preferable. Still, with the same tendency toward evolution that brought us the connected financial landscape that we benefit from today, traders can adapt their old skills and emerge better off and better prepared for the next leap forward in trading technology.

Paul Brittain and Richard Roscelli are brokers with Whitehall Investment Management Las Vegas and are regular contributors on fixed income to Futures magazine. Roscelli has managed institutional and electronic trading desks since 1995.

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