Market buying calls on options

Strong Start to 2014 for OCC Options Volumes

January and February have delivered a strong start for traded option volumes. A record high for stocks at the start of January followed by a deep, yet short-lived contraction in equity valuations, brought about a genuinely fearful surge in the CBOE volatility index. The return to additional volatility should be seen as a welcome sign for investors.

First, because equity prices have essentially been seen as a one-way bet during the Fed’s campaign of monetary easing. The longer the bond buying lasted, the more other central banks jumped in, the more investors got the message loud and clear.

Volatility started to dry up as the VIX ground down from regular readings of 20+ to below 14. The onset of tapering to its bond purchase program arguably takes away the Fed’s so-called put option on the market. And not to belabor the point, but emerging market central bankers have openly taken pot-shots at the Fed for failing to recognize the fallout of its actions in the back yard of others.   

Chart 1 – OCC option volumes have started 2014 strongly, notably index options

 

 

Second, the economy is starting to stand on its own feet, arguably detracting from the need for the Fed to serve as a pillar of support. The economic argument is possibly prodding investors to seek out options as a way of making money – with or without the Fed’s presence. Arguably less Fed presence could create additional downside risk and hence the growing need for portfolio hedging, not to mention an additional catalyst for speculation. And when markets fall far enough, contrarian investors appear to hop right back on the bullish case.

January is typically a good month for option volumes and 2014 proved no different. OCC average option volumes rose to 18.3 million contracts for an improvement of 8.3% over the prior January. Yet the data available on the OCC website fails to show the last time that back-to-back average monthly volumes reached more than 18 million contracts – the data starts March 2012. Yet that is what has just happened to start 2014. It also appears that investors are returning to trade index options with more frequency as the year begins.

Thanks to the plunge in stocks at the start of the month, demand for index options surged to account for more than 15% of overall option volume on three occasions. For the month as a whole index options accounted for 12.4% of daily volume on average and well in excess of the prior March 2013 peak.  The big day for index trading was Feb. 3, when more than one-in-every-five option contracts traded was an index option rather than on a single underlying equity. That day alone saw volume totaling 25.4 million contracts.

Chart 2– Index option volumes exceeded 15% of total volume on three days during February

 

About the Author
Andrew Wilkinson

Andrew is a seasoned trader and commentator of global financial markets. He worked for several London-based banks trading cash and derivatives before moving to the U.S. to attend graduate school. Andrew re-joins Interactive Brokers following a two-year stretch at a major Wall Street broker-dealer as their Chief Economic Strategist. His coverage of stocks, options, futures, forex and bonds regularly surfaces in global media, and over the last several years Andrew has made many TV appearances on Bloomberg, BBC, CNBC and BNN and Yahoo Finance.

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