Options trading reaches a 50-year milestone: industry innovation to assist more investors in increasing their wealth?
The Chicago Board Options Exchange (Cboe) celebrated its 50th anniversary on April 26 last month, marking a significant milestone for options trading in the United States.
Since that trailblazing exchange first offered contracts to purchase or sell 100 shares of stock at a small fraction of the value of the underlying security, a lot has happened.
With contracts ranging in length from several years to just one day, investors have evolved a plethora of techniques to go long, short, or neutral. Depending on changes in volatility or time, you can create trades.
Want a choice but want to spend less money on it? Next, decide on a spread, such as buying and selling a pair of options on the same stock at various prices and be aware of your maximum potential gains and losses in advance.
Since 1973, and particularly recently, the amount of trading on the options markets has increased dramatically. Options trading transactions today are being conducted on at least 16 exchanges in the United States.
Will options trading change?
Will the trading of options maintain its frantic pace, though? It’s challenging to refrain from responding in the affirmative.
To begin with, new options marketplaces will launch later this year and the following year, including the New York-based MEMX in August. There are always new choices and items being developed. Ironically, more market volatility can benefit the sector by emphasizing to investors the importance of hedging methods, where options play a significant role.
Much more work must still be done to inform the public and encourage expansion. Recent reports from investing app operators confirm that this is indeed happening.
The company Robinhood Markets (HOOD), which operates an app that is very well-liked by younger investors, stated last month that the number of options contracts traded increased by 8% in February compared to the same month a year earlier to 89.4 million contracts. The volume of bitcoin trade, in comparison, decreased by 7% for the company during that time.
Tom Sosnoff, the co-founder of Tastytrade and CEO of options-focused brokerage and media company Tastylive Inc., told IBD, “I cannot see anything other than explosive growth” in the options trading market.
Steven Sears, president and chief operating officer of Chicago-based investment advisor Options Solutions, believes the potential for industry growth goes far beyond a desire among traders to make large profits quickly.
“The excessive emphasis on short-term trading is a reflection of how many people want to become wealthy as soon as possible. In an email conversation, such a way of thinking could be more helpful for effective investing, ” Sears told IBD. “America faces a severe retirement crisis, and we could help generations of people if Wall Street used just a small portion of its enormous resources to fund a national investor education campaign that taught children and adults how to think about investing,”
Options trading: a sector with real growth
Numerous thousands of jobs have already been created by the options market, including 1,543 as of December 31 at Cboe Global Markets (CBOE) alone. Meanwhile, sophisticated trading platforms have been developed for both amateur and experienced investors. By commanding a squadron of options trading strategies, they can open up new avenues for profit. Options traders can profit from chances in a variety of markets and across a spectrum of market behavior, from the trending market, up or down, to the trendless one.
How about the emergence of so-called 0DTE (zero days to expiration) options on equity indices over the past year? With the help of these new instruments, you can speculate on intraday changes in the stock market by, for example, shortening the S&P 500.
In 2021, Tastytrade, formerly known as Tastyworks, was rated as the best broker overall in the IBD Best Online Brokers survey. “I think the transition from passive investing to active investing is just starting,” stated Sosnoff at Tastytrade.
The 2021 meme-stock boom, when readers of the WallStreetBets threads on Reddit banded together to buy a tonne of call options, may live in infamy for short sellers (still lists having names like “top call options today” are popular on the web). As a result of their coordinated efforts, shares of struggling businesses, including GameStop (GME), AMC Entertainment (AMC), and BlackBerry (BB), shot up in price and continued to do so for months. They made decisions that caused certain hedge funds, like Melvin Capital, to fail.
Industry options challenges
The GameStop surge of 2021, according to Interactive Brokers’ (IBKR) senior strategist Steve Sosnick, was a prime example of the power of options traders over institutions.
An imbalance of options bettors does not increase the probability of the roulette wheel landing on either red or black. However, traders have the power to influence markets if they purchase call options in large enough volumes, according to a February Barron’s editorial by Sosnick. “The option sellers may be forced to hedge by purchasing the underlying equities or ETFs if a wave of strong call buyers comes along. The result could be a microburst of volatility if this takes an extreme turn into a positive feedback loop.
However, exchange-traded funds and other trading products are a competitor to the options industry. Additionally, financial advisors are taking their time adding options as a main strategy to client portfolios.
Financial consultants “aren’t strategists. They work in sales. That seems reasonable to me,” Sosnoff replied. Prior to co-founding the Thinkorswim trading platform, he worked as a floor trader and seat member at Cboe. In January 2009, Thinkorswim was sold to TD Ameritrade for $606 million; TD Ameritrade is currently controlled by Charles Schwab (SCHW).
The financial advisor’s (FA) responsibility is to acquire and oversee the management of assets. However, it has been the strategy for 50 years, according to Sosnoff. “Good FAs will welcome all products in the future. Improving the cost basis is a task in trade to ensure survival. Options allow you to achieve it. You purchase something; then you exchange it for something else.
Trading statistics for options
1,119,245 contracts for options were traded in total in 1973, all of which took place at the Chicago Board Options Exchange. Dealers executed 911 deals in 16 different stocks on the first day, according to Angela Tu, Cboe Global Markets media officer. Options trading occurred in 32 issues before the conclusion of the year.
By 1987, options for more than 500 stocks were offered on four exchanges, including the American Stock Exchange, the Philadelphia and Pacific exchanges, the latter of which was once located in downtown Los Angeles, and the American Stock Exchange. In that year, the total volume of options traded soared to 305.2 million contracts, an increase of approximately 280 times in just 14 years.
“As an exchange operator, you have to pay attention to people of all shapes and sizes. According to Edward Tilly, CEO of Cboe, this also applies to skilled private investors. Tilly emphasized that the exchange’s continued commitment to providing open access, transparency, and trustworthy marketplaces had contributed to growth.
Tilly attributes the advancement of platforms and technology that have enabled options traders to back-test concepts, engage in paper trading, and create unique methods for the entire sector. Additionally, the innovative and the new are constantly being refreshed. But in the end, it all comes down to education,” Tilly remarked.
Cboe Global increased options net revenue by 28% to $280.7 million in the first quarter of 2023. Market share for its options exchanges was 31.8% overall, an increase of 30 basis points over the previous year. The total volume of options traded increased by 8% from the prior quarter to an average of 46.06 million contracts per day in the third quarter, up from 42.69 million in the fourth quarter of last year.
The net revenue from North American equities on Cboe remained constant at $93.1 million.
Tilly believes there is space for expansion besides product innovations like zero days to expiration (0DTE) choices. He declared, “We conduct business in 26 regulated markets across the world. “Our markets are in demand constantly,”
A 50-cent cash dividend per share will be paid on June 15 to stockholders with records as of May 31, according to a May 11 announcement by Cboe Global Markets.
An increase in the volume of options trading
The rate of growth after the dreaded millennium bug didn’t affect the world’s markets? Astounding in its simplicity. In 2000, the year the International Securities Exchange began and soon emerged as a major player in the options trading market, 726.7 million contracts were traded, a 43% increase in a single year.
The burst of the dot-com boom slowed down growth in 2001 and 2002. But on March 17, 2003, the stock market issued a follow-through day that changed the game, and trade volume exploded once more. From 2003 to 2008, the number of options increased by double digits annually. The first time it exceeded 1 billion contracts was in 2004.
Despite a severe bad market in equities, the total volume of U.S. options in 2022 increased by 4.6% from 2021 to 10.32 billion contracts. This sum consists of 9 billion equity-linked options, 721.2 billion non-equity options, and 55.1 billion futures options. Cboe’s Tu stated that the company has been responsible for about a third of all options trading in the United States over the years.
As we continued to expand our global network, 2022 was a year of significant progress at Cboe, according to CEO Tilly in a news release announcing the company’s fourth-quarter results. Derivatives, data and access solutions, and digital are three important areas of our business where we are concentrating on strengthening our momentum. The company is expected to release Q1 results on May 5.
Options exchanges: are they a good investment?
The Chicago-based company’s earnings increased 6% to $1.81 per share last quarter, slowing from a 40% increase the prior quarter. Revenue increased 16% to $1 billion, extending its string of consecutive quarters of double-digit top-line growth. Over the previous six quarters, earnings have grown by an average of 21.8%.
According to MarketSmith data, Cboe stock has prospered since it debuted on the Nasdaq in June 2010. The Cboe-BATS exchange is now where it is traded. On September 14, 2012, shares with a buy target of 29.25 broke out on a six-week flat basis. After the breakthrough, Cboe increased by 374% to reach an all-time high of 138.54 in February 2018. During the same time, the S&P 500 increased by 96%.
The Cboe stock looks certain to surpass its record high today, following years of erratic trading.
Triple-digit growth has been recorded during the previous ten years by Nasdaq (NDAQ), Intercontinental Exchange (ICE), and CME Group (CME), which all offer options trading across the commodity, stock, and currency markets. Nasdaq (NDAQ) bought the International Securities Exchange in 2016 and offers options trading throughout these markets.
Shorter option expiration times
Shorter time frame option trading has remained popular. Options with a weekly expiration date were introduced in 2005, which increased trader interest and activity. It also opened the door for these variants to cover even shorter time frames. Options with three-week expirations have been available for actively traded indexes since 2016. Moving towards a daily-expiration product, the ODTE, which debuted in the spring of last year, was only logical for the exchanges.
Investors can change their positions and trade the day’s news using ODTEs.
The fact that fewer than half of Cboe’s volume consisted of options contracts with an expiration date of five days or less, according to Sosnick of Interactive Brokers, is notable. Why? Options continue to fit a variety of investing time horizons and preferences.
It has been on the rise for a while, according to Sosnick, to have options that are even shorter. “Despite the fact that ODTE options have enabled possibly unhealthy levels of aggressive speculation, there is nothing inherently dangerous or systemically risky about them.”
On May 3, Cboe reported a 3.6% decrease in “multiply listed options” average daily volume for April, down to 9.81 million contracts compared to the same month last year. The number of on-exchange options trading in US stocks fell 17% to 1.35 million, whereas the volume of contracts for index options increased 51% to 3.51 million. Looks like that this is basically what we can await for 2023 in shorter option expiration.
Plans for growth at TradeZero
The president and co-founder of online brokerage TradeZero, Dan Pipitone, speculates on the potential introduction of intraday-expiring calls and puts in the future. Investors can be able to trade a stock or index only during certain hours, such as the morning or afternoon. Tilly at Cboe is not necessarily ruling it out. Considering the 24-hour news cycle, he believes certain traders may be able to use intraday options.
In the meantime, TradeZero intends to introduce spread trading on its platform in May. Pipitone claims that the proprietary software platform includes a very conservative margin-calculation engine. This could aid the company in managing risks and leveraging consumer accounts.
Pipitone said to IBD that options trading “is a real bright spot for us (as trading in) equities has cooled off.” Furthermore, he predicts a time when clients will be able to execute “fractional options” that cover equity shares in lots of fewer than 100.
Until the contract expires, one call or put stock option grants the buyer the right—but not the obligation—to buy or sell 100 shares of the specified security.
Other techniques for hedging investment positions
But only some people are completely sold on options, including some money managers. According to Robert Maltbie, head of small- and microcap equities research company Singular Research, exchange-traded funds are advantageous to investors for both long and short strategies because of their liquidity and affordable trading fees. ETFs that track certain sectors and indices are available as hedging tools.
According to Maltbie, there are few options traded in the world of microcaps or companies with a market value of under $500 million. “If you want to hedge against a decline in regional banks in the future, all you have to do is sell short an ETF like KBWB (Invesco KBW Bank (KBWB)) or IAT (iShares U.S. Regional Banks (IAT)). It is simple and quick. There is no need to choose a time expiration, as there is when using options. I don’t need to be concerned about premiums. “
In order to trade some liquid stocks, Maltbie—who is also the managing partner of Calabasas, California-based Millennium Asset Management—uses options. He stated that I’ll use them to improve the situation in terms of direction. And what about Maltbie’s wealthy clients? “They are too occupied. Not even ETFs are traded by them.
A challenge in education for options trading methods
Randy Watsek, principal of Birch Lane Group, an advising company in Somers, New York, linked with Raymond James Financial (RJF), claims that options provided extra value while he managed a hedge fund in the early 2000s. Birch Lane Group has $200 million under management. It may make more sense to use a bearish options strategy that caps the maximum possible loss rather than a short stock position, which potentially carries an unlimited risk of loss.
Watsek believes that most financial counselors steer clear of options trading, though. Information on options instruments is provided to those applying for the Series 7 broker license. But it’s really only cosmetics. Knowing alternatives and effectively applying them differ significantly, he noted. “Even just to comprehend the worth of options requires substantial training. The risks and possible outcomes are not linear. “
He continued, “There are a few limited low-risk techniques to use options, including covered calls. However, the risks appear when you believe you can obtain a consistent source of money. Market black swans exist, and you cannot account for them. The comment alludes to Nassim Taleb’s book “The Black Swan: The Impact of the Highly Improbable,” which describes how impossible it is to foresee every risk that will arise in the market in the future.
Restrictions on trading options
The average account among TradeZero’s retail clients is $10,000, according to Pipitone. He is aware that the majority of options expire with little value. However, a trader who believes there is a chance the underlying stock could make a significant, unexpected move is still drawn to the profit potential of a weekly option, even though it may only trade for one or two cents per contract. Pipitone claims that in the eyes of some traders, the potential payoff is worth the risk if that option can increase in intrinsic value by, say, 50 cents.
Pipitone points out that options trading is also subject to the aforementioned pattern day-trading restriction. For accounts under $25,000, this Finra regulation, the self-regulatory body for broker-dealers, restricts intraday trades to only three roundtrips over the course of five business days.
Is this a reliable investment safety net? Absolutely, he replied.
The benefits of options education
In the opinion of Sears of Options Solutions, options trading education could help investors improve their general market understanding.
A covered call strategy, for example, might increase the overall return from equities in portfolios by 2% to 4% if learned by ordinary investors. These advantages may be of great assistance to retirees. The technique limits gains in the stock, but there is little risk involved.
“The options market provides a continuous master class on how to think like a successful investor. As much as they are a financial instrument, options represent a way of thinking and behaving” , according to Sears. A competent options investor puts process and profit ahead of risk and reward.
The Good Investor Rule, as I like to refer to it, is frequently used to summarize all of this: “Bad investors think of ways to make money, and good investors think of ways not to lose money.”