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Transatlantic Exchanges, Brokers Put Their Money on European Options Growth
December 17, 2007
On the regulatory side, an exchange member on one continent must still become a member of the exchange's counterpart across the ocean, or clear trades through a member. Hajali said that NYSE Euronext has developed a link giving U.S. customers immediate access to Euronext.liffe's interest-rate and commodities derivative products.
In the first half of 2008, he added, the exchange plans to enable European brokerages that are members of both Euronext.liffe and NYSE Arca--currently 25--to trade products listed on each venue. "With a single entry, European investors will be able to trade on both Liffe and NYSE Arca," said Hajali, who noted that the plan has generated significant interest among European investors.
According to Steve Grob, director of derivatives at London-based Fidessa Group, "the next big battleground for all the options exchanges looks like it will be international." He noted that Fidessa sees "significant untapped potential" in investors interested in U.S. equity options trading, especially the retail market in Asia and institutional investors in Europe. However, he cautioned, there will be technical challenges such as adapting to the massive volumes of market data arising from myriad options contracts.
Also, said Grob, since options contracts in the U.S. are traded on multiple exchanges, smart-order routing has become essential to finding best execution. Apart from Fidessa's routing application, he added, there are few if any in Europe that can sweep all the U.S. options exchanges for the national best bid and offer and the depth of the market to suit their trading strategies and requirements.
NYSE Euronext's upgrade to its communications infrastructure aims to provide a conduit for options flow into the U.S. from Europe, allowing market participants to receive quotes and other trade-related data directly from the exchange. However, the exchange company will still need its independent software vendors to adapt their trading platforms to support the different way that options are traded in the U.S. "It's one thing to receive all the data, but you need intelligent applications to make sense of it," Grob said.
Fragmentation in Europe
Philippe Buhannic, president and CEO of New York-based TradingScreen, another large trading platform catering to institutional investors, foresees the options market in Europe growing "enormously." He noted that the U.S. model, in which contracts trade over multiple exchanges, will also likely move across the Atlantic. The EU's Markets in Financial Instruments Directive, effective Nov. 1, establishes best-execution requirements that are expected to cause market fragmentation similar to that of the U.S., prompting competition among execution venues, and option contracts to trade on multiple exchanges.
Fragmentation could encourage options trading growth in Europe, as it did in the U.S., where volume has grown by 30 percent annually for several years. Buhannic pointed out, however, that each European exchange has its own clearing system, while in the U.S. the Options Clearing Corp. clears trades across all the exchanges. Since derivative transactions can contain multiple options contracts as well as long equity positions that may be executed and hence cleared on different exchanges, cross-margining the transactions in Europe becomes all but impossible, creating an impediment to expansion.
Buhannic also noted that equity options in the U.S. are considered securities products, while options on futures contracts are treated as futures products--the former regulated by the Securities and Exchange Commission and the latter the Commodities Futures Trading Commission. In Europe, options and futures products fall under a single regulator. That creates complications for portfolios holding positions on exchanges in both continents. "How do we margin between a position on ISE and a position in Eurex?" said Buhannic.