2020 was an unprecedented year for global derivatives markets as volatility gripped global markets fueled by the spread of COVID-19, the U.S. elections and Brexit negotiations. In this article, Eurex speaks with Daniel Mannion from Susquehanna International Group (SIG) about the impact this had on trading as well as a closer look at the growth of dividend futures, ESG and pro-rata pricing and a look ahead to growth areas in 2021.
There were many notable events in 2020, but one of the major impacts that the spread of COVID had during the year was on dividend payments. What impact did that have on dividend futures?
Dividend futures are a product that we’ve traded at SIG to varying degrees over the last ten years. Even pre-COVID, we were offering direct pricing to some of our clients in these products. When COVID hit and payments of dividends became increasingly uncertain across the board, we needed to become much more active in this space. We increased our focus on these products as a complement to our other trading. We have expanded our trading team and improved our capacity to provide much-needed liquidity in this space for institutional options users. It’s an example of liquidity providers responding well to market needs and providing an avenue to recycle these risks through the market.
The introduction of quarterly dividend futures was a further response to risks that gained relevance. As became clear with dividend payments, it’s not just the amounts that fluctuate but also the payments’ timings. The introduction of quarterly dividend futures is an important additional hedging tool for market participants and SIG supports its growth.
How has the demand profile changed in the wake of the COVID-19 crisis?
Much of the surge in demand for these products came from existing users of dividend futures. Dividend risk has accompanied their regular customer-facing business, but it was always considered a relatively stable risk factor. This year, we saw a new dynamic to these risks with the addition of increased political and regulatory risks dominating stock fundamental factors and we saw traditional hedges of these exposures break. For much of this year, the dividend futures were dislocated from their regular market betas, which brought more focus to the product space. The increased uncertainty naturally led to a growth in speculation in these contracts and helped create a healthy marketplace.
Outside market volatility, another major trend last year was the growth of ESG-investing. How do you see that play out in derivatives markets?
ESG was a big theme last year and will continue to be this year. Eurex has been at the forefront of launching ESG-based contracts and now offers several futures and options for investors looking to gain exposure to ESG-screened stocks. We have signed up to market make ESG options on STOXX Europe 600, DAX and EURO STOXX 50 providing prices both on-screen and direct from our sales desk. Like any new product, it can take time to build liquidity, as investors are hesitant to get involved until they see good volume going through. We have seen one large trade go up in the STOXX® Europe 600 ESG-X which shows there is deep liquidity to trade these products. We also want to highlight that we can offer liquidity (in terms of improved size / spreads) in these products by coming direct to our sales desk for prices.
Another initiative at Eurex has been the expansion of pro-rata allocations. How has that changed on-screen liquidity?
We’ve been impressed so far with the impact of pro-rata allocation on the quality of the electronic quotes. A Eurex case study into the first six months of the pro-rata allocations saw the size on quotes double without an impact on the width of the quotes. We would highlight the electronic order book as an efficient way to execute quickly, at an increased size level. Our direct client trading team is then here to show deeper liquidity for the much larger orders. We hope that further growth in electronic liquidity allows for better price discovery and leads to thicker markets at all size levels.
Looking ahead, what growth areas do you envisage?
An exciting trend in derivatives trading last year was the influx of flow from retail trading platforms in the U.S., which led to significant volume growth in equity options. Eurex launches U.S. stocks in Europe early this year and we are very interested to see how it goes. They are exciting stocks to trade with a different volatility profile to many of the largest European names, trading at higher implied volatility levels. We’ll be quoting these listings at launch and hope that there is a good appetite among European-based option users in trading them.
On the index side, our MSCI offering is an area we are looking to develop further and add to the wide range of products we are currently active in. Orders are going through in the client space, where we think the pricing hasn’t been as sharp as it could be. In some of these more niche products, we would always suggest that it is important for end-users to have derivatives specialists as a part of their broker list to ensure they optimize their pricing. Also, as I mentioned above, we expect ESG products to continue to grow in 2021.
We look forward to discussing these topics as the upcoming Derivatives Forum Frankfurt 2021 on March 23-24.
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