Advantage Futures

Volatility Next Exit

Conversation with Jay Caauwe, Managing Director, CFE

July 2013

For the exchange’s view on the future for VIX futures trading Jay Caauwe, Managing Director, CFE answered a few questions from Michael McCarty, Funding Partner, Differential Research.

Michael: The growth in CBOE Volatility Index® (VIX®) futures trading appears to have steadily increased in terms of volume and open interest. Can you recall any specific turning points?

Jay: One factor is the introduction of and subsequent growth of volatility exchange-traded products (ETPs) that track the performance of the VIX Index / VIX futures. Another factor that somewhat presaged the introduction of volatility ETPs was the events of 2008 where investors and market participants realized that an allocation to volatility, in the form of VIX futures, may have helped to smooth out returns. In addition, volatility trading has been embraced as an asset class, which is attributable in part to equity indices being highly and positively correlated. Investors will go to where the liquidity is and liquidity can be found in VIX futures (traded on CFE) and VIX options (traded on CBOE). Plus it is important to note that many market participants, at this stage, not only know “why” to trade volatility products, but more importantly they know “how” to trade volatility products.

Michael: How do you think today’s VIX futures and options activity breaks down into different types of investors/traders?

Jay: As the depth of markets has grown, a corresponding increase to the user base has been seen. Market participants indexed to volatility and issuers of VIX structured products remain quite involved.  There has been a crossover from the interest rate side as those participants see the similarities in a forward rate curve and the upward term structure (contango) seen in VIX futures. In addition, CTAs use short term overlay strategies and propriety trading groups day trade.  As a result, there is broad representation of many types of market participants trading volatility.

Michael: Where do you see the greatest growth coming from currently?

Jay: CFE is encouraged about its plans to introduce extended trading hours in VIX futures later this year. Beginning with an increase to the end of the day, where traders will have a chance to rebalance or react to earning reports, CFE will follow that up with a new (earlier) start of day. The planned opening for VIX futures will be set for 02:00 Chicago time, which matches the 08:00 London open. Feedback from recent and ongoing client visits in Europe point to a need and desire to trade VIX futures in their local hours, especially as breaking news occurs. One only has to think about the recent Japanese market moves, April’s events in Cyprus, the ECB action or a host of other fundamentals to see that the ability to trade VIX futures more immediately is desirable.

CFE also sees interest developing in its S&P 500® Variance (VA) futures.  CFE introduced VA futures in December 2012 and plans to change the time for the price conversion process from the time of trade execution to the close of trading.  CFE is making this change in order to align VA futures more closely with the conventions used to trade OTC variance products. CFE believes that VA futures compliment what the VIX futures trading community is engaged in and allow for traders to explore the convexity versus linear payouts of variance and volatility.

Michael: With the recent introduction of the London hub has the profile of VIX market participants changed?

Jay: The communication hub in Slough, England outside of London was established as one part of CFE’s plan to extend trading hours in VIX futures. The hub permits CFE Trading Privilege Holders (TPHs) to connect to the hub to access CFE’s matching engine (located on Secaucus, NJ) instead of setting up their own communications lines to CFE’s matching engine in the U.S.  One benefit of being a TPH is DMA (Direct Market Access) and in this day and age of speedy information flow, firms that have not built their own infrastructure may utilize CFE’s in an effective and efficient manner.

Michael: Can you talk a little about Trade-at-Settlement (TAS)?

Jay: As a refresher, TAS allows market participants to submit an order to buy or sell VIX futures, during the course of the day that will trade at a price equal to the daily settlement price for that VIX futures expiration month, or at a price that is up to 10 ticks below or above the daily settlement price. TAS trades account for upwards of 12% of CFE’s ADV in VIX futures, so the utility and popularity of TAS trades are evident. CFE understands that TAS trading is done by market participants that are also  trading volatility ETPs. CFE plans to extend the TAS trading session shortly.  Currently TAS trades are accepted up until 15:12 Chicago time.  CFE plans to change that time to 15:13 Chicago time. CFE allows for TAS trades in the outright and also as block trades, spread transactions and as exchange of contract for related position (ECRP) transactions.

Michael: CFE maintains spread markets for VIX futures.  Can you talk a little about the spread markets and trends there as well?

Jay: The most basic description is that spread trading allows for market participants to make decisions based on the steepness of the term structure. Contango can and will change due to market events, both technical and fundamental. Investors realize that a buy and hold of front month futures, while tracking behavior in the VIX index level, may not always offer the optimal exposure to volatility due to roll costs. But with the advent of ETPs that address the mid to tail end of the curve, more liquidity is being seen in those deferred months helping market participants to minimize roll cost. That being said, spread trading at CFE on VIX futures is quite active, accounting for nearly 25% of CFE’s ADV in VIX futures. Spread trading in .01c (penny increments) is permitted, making this an attractive option.


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