24 Oct 2018


Interview with BlackRock and Morgan Stanley on IGLN Options – Part 2

How are investors using IGLN options?

By launching options on the iShares Physical Gold ETF (IGLN), Eurex and BlackRock responded to growing customer demand for listed, UCITS compliant contracts to access the gold market. Eurex introduced the IGLN options on its market in May 2018.

In a discussion with Gabriel Manceau, Index Derivatives trader at Morgan Stanley & Co International plc, and Alexandre Roubaud, running Secondary and Options markets for iShares EMEA, Eurex spoke with market participants to understand the opportunities available for investors to trade IGLN options, how to incorporate them in trading strategies and what the future for IGLN options holds.

Question: Which strategies would a typical investor use to take advantage of market opportunities?

Gabriel Manceau: We see three types of transactions. First, systematic volatility sellers adopt either a call overwriting or a put underwriting strategy. Second, investors use options to express a directional view by limiting losses; think risk-reversals, call spread collars and so on. Finally, we see macro hedging In the event of a global equities sell-off, investors with experience of these events may look to buy call spreads, for their positive performance historically. They are also cost efficient due to current low implied volatility and inverted skew.

Alexandre Roubaud: IGLN holders tend to be long-term holders. In an environment of low volatility, investors seeking extra yield on their portfolio may look to implement an overwriting strategy such as selling out of the money calls. This strategy tends to work particularly well with gold as its call options tend to be more expensive than puts. From a portfolio manager’s perspective, it generates yield from a yield-less holding. Such strategies could also reduce the max drawdown and volatility of the overall position, improving total risk-adjusted returns. Another popular approach is to access gold exposure through a UCITS eligible synthetic exposure – gaining long or short unfunded exposure to gold through contracts that can be either cash exercised, or physical through UCITS eligible ETFs. And as result of recent regulatory changes, we are seeing some European clients switching their US Gold ETF options to IGLN contracts.

Question: What are the major differences between trading IGLN ETFs and IGLN options versus futures and options on the commodity itself?

Alexandre Roubaud: In extremis, options and futures on the commodity could lead to physical delivery of the underlying gold bars. Taking delivery is a critical recurring limitation for many clients, especially the ones running UCITS portfolios limited by strict compliance rules. From a trading perspective, the London gold options market is purely OTC, meaning non-transparent and not cleared. In comparison, IGLN options are set up like any other listed equity options and are centrally cleared.

Gabriel Manceau: It’s listed with a central counterparty, and from a settlement perspective it trades like an equity. Anyone set up to trade equity options can trade IGLN options. No extra work is needed, which is convenient. Also, options are physically settled into the ETF, which is what clients typically want to hold.

Question: Gold is typically uncorrelated to currencies, equity and bond prices and, as such, is seen as a safe haven. How accurate is this perception and do investors indeed flock to gold in times of market unrest?

Alexandre Roubaud: By checking the five years average correlation between Gold and MSCI ACWI, which is a mix of Emerging Markets and Developed Markets exposures, we can see the correlation is negligible. This makes it an ideal portfolio diversifier. The last economic turmoil verified this low correlation. Gold performed well and became a de facto safe haven exposure.

Gabriel Manceau: Nobody can predict the future, but one can still look at historical price movement and analytics. During the economic crisis between 2007 and 2009, gold effectively doubled in price expressed in dollars and became a safe haven. Even more so for investors based in emerging market countries. There, they may not have access to major currencies in which they can hold cash.

Question: What's your opinion on market volatility and how investors react to the current macroeconomic environment? How important are trading strategies involving gold?

Gabriel Manceau: The general market volatility is at historical lows. This is mainly due to investors selling premiums for carry strategies. The macroeconomic environment is not taken into account. Strategies in gold are very similar, and gold implied volatility is also at historical lows.

Alexandre Roubaud: Our thesis is playing out that volatility has bottomed out but remains in a low regime. While VIX volatility has remained around 15 in Q2, which is nearly double VIX levels throughout 2017, volatility has settled relative to the sharp spikes of Q1. Notably in May, European equity volatility markets did not show signs of investor panic despite the wide swings in yields and the renewed political risk in Italy. While V2X - the European equivalent of VIX - did spike to 20 as political uncertainty peaked, it's still well below the 35 level that we saw in February. Protective option strategies on European equities may appear opportune because of this disconnect, should political uncertainty continue.

Gabriel Manceau, Index Derivatives trader,
Morgan Stanley & Co International plc

Alexandre Roubaud, running Secondary and Options markets for iShares EMEA, BlackRock

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