Trade Talks: Jill Malandrino, Global Markets Reporter, and Fred Ruffy, Options Strategist at Trade Alert, examine one of the largest market makers exiting the business, unusual options volume, and how professionals manage their concentration of positions, including ways to use the Nasdaq-100® Index (NDX).
In this week’s episode of #TradeTalks, I meet with Fred Ruffy, Options Strategist at Trade Alert, a software and services company focused on the synthesis and distribution of securities market intelligence to financial professionals. We take a look at one of the largest market makers exiting the business, unusual options volume, and how professionals manage their concentration of positions, including ways to use the Nasdaq-100® Index (NDX).
On March 8, Interactive Brokers (NASDAQ: IBKR) announced it has decided to discontinue its global options market making activities, which are conducted through its Timber Hill Companies. IBKR expects to phase out these operations substantially over the coming month. The Company intends to continue conducting certain trading activities in stocks and related instruments and will focus on the brokerage platform instead.
“We must focus on continuing to build our brokerage platform to empower our customers with first rate execution and account management capabilities at very low cost,” Thomas Peterffy, Chairman and CEO, said. “This remains our mission, to which we must devote our full attention. In retrospect, 40 years of market making gave us the financial resources and the unique expertise to develop our superior brokerage platform for cost and execution sensitive, professional investors and traders, and to give them the edge to successfully compete in the marketplace.”
As it relates to the overall options industry, the move by IBKR could have some implications for the options industry. “IBKR was an important liquidity provider,” Ruffy said. “If you look at 13F filings, you will see that the company was one of the biggest holders of options on stocks like Apple (NASDAQ: AAPL). With IBKR moving out of the market, that will impact levels of liquidity. It is not a great trend, but it is something the options industry will handle and move forward with other market making firms most likely stepping in.”
Unusual options activity is data that professional traders may watch to determine market sentiment on a stock or sector. For example, traders may watch this kind of activity going into a volatility event such as earnings or in front of an anticipated corporate announcement.
“If you are looking at a name that is seeing increased call activity and volume that is way above normal, that could be a sign of investor interest,” Ruffy explained. “This is especially so if the volume spike is on the “ask” side of the options price quotes. It may be an indicator that investors expect the underlying stock to move higher.”
When we examine institutional trades, they are typically done in large blocks of equity shares and options. As such, money managers may use a variety of strategies such as taking advantage of mispricing in options contracts or to hedge positions. One example is using protective puts on an index that is heavily concentrated to a specific sector like technology. If a money manager owns a large portfolio of stocks that is part of the Nasdaq-100® Index (NDX) like AAPL, Microsoft (NASDAQ: MSFT), Amazon.com (NASDAQ: AMZN) and Facebook (NASDAQ: FB), he or she may be compelled to employ a hedging strategy using the NDX to protect gains or if they expect volatility over a longer time horizon.
Retail investors can also strategize like money managers by using the PowerShares QQQ ETF (NASDAQ: QQQ) or what is commonly referred to as the “Qs”. This ETF generally corresponds to the price and yield performance of the NDX. “The difference between the Qs and NDX, is that you can buy and sell shares of an ETF like QQQ, whereas the NDX cannot be bought because it is an index like the S&P 500,” Ruffy said. “On the indices, options are traded on them instead.”
In next week’s #TradeTalks, we will take a deeper dive in to options strategies and indicators.
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