In 2002, almost as many equity and index options were traded
in Europe as in the US. Europe had 12 markets, the US five.
Now, the US market is three times as big as
Europe’s. Many believe the difference is that
while the US industry has moved with the times and become more
competitive, Europe’s has changed little. As David
Wigan reports, both the incumbents and new entrants want to
innovate – but have to struggle with an entrenched
structure of isolated exchanges.
Comparing the European equity options market to its US
counterpart is a little like standing the ugly duckling next to
its sibling the swan. While the latter has matured in recent
years into a majestic beauty, the former remains shabbily
inconspicuous and shy of anything that smells like deep
With US exchanges battling for market share, and initiatives
such as penny pricing attracting armies of first time
investors, option trading volume took a tiny dip in 2009, but
apart from that has grown every year since 1992, swelling
nearly fivefold since 2002. European volumes, meanwhile,
managed to double between 2002 and 2008, and have since
Illustrative of the contrast are recent trading statistics
from NYSE Euronext, which says trading in its European equity
derivatives business declined 26.6% in February, compared with
the same month in 2010, to 30.4m contracts. In the same month,
turnover of US options on its Arca and Amex exchanges was 33.3%
higher than a year ago, at 86.2m contracts. (To be fair, most
of the fall in Liffe’s European volume was in
equity futures, not options, but options were still down.)
For a true cross-Atlantic comparison, it should also be
pointed out that equity and index futures, as opposed to
options, are more actively traded in Europe, with a record
1.16bn contracts in 2010, against 752m in the US, down from a
2008 peak of 864m. But this only goes a little way towards
making up Europe’s deficit of more than 2.5bn
contracts in options.
"US options markets have seen tremendous growth in recent
years, with investors attracted by technology advances and a
hyper-competitive exchange environment," says Andy Nybo,
principal and head of derivatives at Tabb Group in New York.
"European trading, meanwhile, has stagnated, with investors
often preferring alternative investments to manage exposures,
while higher costs and a disparate liquidity framework
contribute to the general malaise."
Stuck in the past?
While the slow progress in European options may be partly
explained by markets behaving too predictably over the recent
period, and a fall in volatility before the recent upheavals in
the Middle East, analysts say a key difference from the US is
structural advances that have not been replicated in
Penny pricing, introduced in the US in 2007 to allow options
to be traded in one cent increments, helped boost volumes and
narrow bid-offer spreads. Some 75% of US options are now
informally estimated to be traded that way.
Such has been the success of the US exchange-traded market
that it is attracting business away from the bilaterally traded
arena. Notional global outstanding of OTC equity options was
$4.5tr in June 2010, according to the Bank for International
Settlements, compared with $7.5tr two years before.
And still more exchanges are expected to open, said
executives speaking at the Futures Industry Association
conference in Florida in March. Up to five more options venues
could be operational in the next three years, bringing the
total to 14, CBOE chairman and CEO William Brodsky was reported
by Bloomberg as saying. In 2000 there were five.
Apples and pears
Some argue that a direct comparison between US and European
volumes is unfair, because of the granulation of trading in
Europe. London options trading, for example, is largely
dominated by institutions, with retail investors preferring
alternative products such as spread bets and contracts for
difference. Amsterdam, on the other hand, is driven by retail
"Comparing the US and Europe is like comparing apples with
pears," says Ade Cordell (pictured), co-head of equity
derivatives and OTC services at NYSE Liffe in London. "There
are different products and territories and audiences, and a
wide array of offerings vying for attention."
More than a dozen national stock and derivatives exchanges
in Europe host equity and index options trading, with little
overlap between their products – and, unlike the US,
no shared clearing house. Each market is thus separate from the
others, although those of Belgium, the Netherlands and France
do share a common clearing house, LCH.Clearnet SA, and a common
owner. NYSE Euronext also owns London-based Liffe, but this
market is cleared by NYSE Liffe Clear, using the default fund
of LCH.Clearnet Ltd in London.
Despite this fragmented structure, large scale trading is
highly concentrated: Eurex, with 679m contracts in 2010, had
64% of the market, and the combined NYSE Euronext exchanges,
trading between them around €2tr of derivatives daily,
Some 285m of Eurex’s trades in 2010 –
more than all the volume traded at non-Eurex and Liffe
exchanges – were options on the Euro Stoxx 50 Index,
the second most active index option in the world after that on
Korea’s Kospi 200. Besides that, it offers options
on the Dax 30 Index, and on German, Dutch, Scandinavian,
French, Italian, Russian, Spanish, Swiss, and US equities.
Big and bigger
Now the two European titans are coming together, having
agreed in February a $25bn merger which will generate 37% of
its combined income from derivatives trading and clearing.
Rumblings about a counterbid by some combination of Nasdaq OMX,
CME Group and Intercontinental Exchange had by late March come
News of the merger came less than a week after London Stock
Exchange Group agreed to merge with TMX Group of Canada in a
C$3.2bn ($3.25bn) stock deal, while also in February Bats
Global Markets, the fourth largest operator of US equity
markets, struck a deal to buy Chi-X Europe, the
region’s largest alternative trading system.
The flurry of consolidation reflects the challenging top
line outlook for exchanges. Revenues for the European sector
have shrunk by 15% since 2008, according to a recent report by
Morgan Stanley and Oliver Wyman. Driving the decline has been
shrinking fee income from cash equities. Pan-European cash
equity revenues were €650m-€700m in 2010, from a
total value traded of €9.1tr. That indicates an average
revenue take for the exchanges of about 0.75 basis points.
Revenues are under pressure from multilateral trading
facilities, introduced in 2007 by the Markets in Financial
Instruments Directive (Mifid). MTFs fragmented the cash market,
allowing any stock to be traded on many venues instead of just
one, as was previously the norm. Average revenue takes per
trade at MTFs are around 0.1 basis points, exerting an enormous
downward force on exchange revenues. As a result,
exchanges’ volume share has also fallen, from 70%
in 2006 to 52% in 2010.
Sheltered so far
Derivatives exchanges have so far not been subject to this
kind of competition, and moreover, have weathered the financial
crisis fairly well, generating 3%-5% annual growth rates by
number of traded contracts, according to Morgan Stanley and
Since the financial crisis, regulators have pushed market
participants to move derivatives trading on to exchanges and
other venues. Market experts estimate that 20%-30% of single
name equity options are traded on exchanges, the Financial
Times reported in February, with the rest OTC. About 70% of
equity index options are thought to trade on exchanges, the
paper says. However, estimates vary widely – some
bankers reckon a higher share of trading is listed.
In this derivatives environment, where exchanges retain much
more market power than they do in cash equities, there is
already concern among traders over the implications for
"In Europe you don’t have anything like the
competing fee structures you see in the US," says Gerald Perez,
managing director of Interactive Brokers in London. "The main
reason for that is the lack of fungibility across
Whereas in the US, all the options exchanges offer options
on the same blue chip stocks, in Europe it is still mainly one
option, one exchange. Equity index derivatives remain largely
competition-free on both sides of the Atlantic, because of the
power of the index providers to grant exclusive licences to
Thus, S&P 500 Index Options are only traded at the
Chicago Board Options Exchange and CME Group, just as Euro
Stoxx 50 contracts have only been available at Eurex and CAC 40
Options at NYSE Liffe Paris.
On the single stock side, competition is beginning to creep
in. For example, European investors can trade some Dutch
options such as TNT or Arcelor Mittal in Amsterdam, and the
same names through Eurex in Frankfurt.
"Now the two operators are merging, so the question is
whether we are going to see the same competition in the future
that we saw previously," Perez says. "There may be a question
of whether we are going backwards or forwards on this issue,
and whether exchange fees are going to increase or
Guarding the indices
Several big structural obstacles lie in the way of creating
a more flexible, competitive European options market.
One is the index licensing issue. Stoxx, for example, is
wholly owned by Deutsche Börse and SIX Swiss Exchange. Why
would it offer licences to directly competing exchanges, unless
obliged to do so by regulators or the courts? (The Singapore
Exchange began in December to offer Euro Stoxx 50 Futures and
Options, but these are in a different time zone and currency,
and Eurex believes the instruments will boost liquidity in its
In July 2010, a Chicago court ruled that International
Securities Exchange – ironically, owned by Deutsche
Börse – did not have a right to offer S&P 500
or Dow Jones Industrial Average options, in competition with
CBOE and CME’s long-held duopoly. Exclusivity was
With some of the most popular and liquid risks locked away
by incumbents, it is harder for new trading venues to break in.
"Right now we have concentration because contracts are single
venue securities, with exclusive intellectual property
licensing and without open access to clearing," says Mark
Hemsley (pictured), chief executive of Bats Europe. "To
introduce competition in intellectual property we need to be
licensed, and at a fair rate. We also need fungibility and open
access to clearing, also at a competitive rate."
Hemsley highlights the second major roadblock to opening up
the market – the structure of clearing in Europe.
The US model is to have a single clearing house, the Options
Clearing Corp, for nearly all listed equity and index options
business. All nine pure options exchanges are cleared by the
OCC, so that open interest is entirely fungible between them. A
position opened at one exchange can be closed at another. Any
new exchange need only secure access to the OCC to be able to
join the game.
In Europe, every exchange has its own clearing house, with
no netting of exposure between exchanges. Even though NYSE
Liffe and EDX London both use LCH.Clearnet for clearing, there
is no commingling between the exposures, and anyway both
exchanges are building their own clearing houses to keep more
of the clearing revenues in house.
This means a new exchange would have to persuade customers
to set up a whole new clearing relationship, with no
efficiencies of scale with their larger business at existing
Another feature of the US system is mandatory price
transparency between all exchanges, under the National Market
Hemsley believes Europe should introduce a consolidated
tape, so that prices from all MTFs and exchanges fed into a
single data stream – though he adds that the idea has
yet to attract significant support from exchanges.
Despite the difficulties facing new entrants, a small band
of players is preparing to challenge the Liffe-Eurex options
hegemony. Bats and Chi-X want to move into derivatives trading
at some point, London Stock Exchange is in the process of
migrating its EDX business to its new Turquoise Derivatives
platform, where it will offer a wider product range, and
Amsterdam-based Tom (The Order Machine) plans to move into
single stock options in the coming months.
"We are certainly interested in the opportunities that
derivatives give us," Hemsley says. "However, we do not have
any specific timeline right now because our priority this year
is the consolidation with Chi-X."
Turquoise Derivatives, partly owned by 12 investment banks,
will upgrade its technology at the beginning of May and then
start introducing new products. It aims first to launch index
options, initially based on the FTSE indices, which LSE partly
owns, and then single name options and other products. Other
exchanges have refused to sell Turquoise licences for
"Through combining with EDX it means we have an established
community already in place and our trading platform, which is
already used elsewhere in Europe, is faster than Eurex and
Liffe," says Natan Tiefenbrun, commercial director at Turquoise
in London. "In addition, we will have the unique advantage of
offering trading against UK [cash] equities side by side.
"The only trading venue Stoxx has given a licence to is
Eurex in Europe and the only clearing venue Stoxx has given a
licence to is Eurex Clearing in Europe," Tiefenbrun says. "We
are strong advocates of customer choice and this exclusivity
does not promote competition or choice."
Nevertheless, Turquoise will pursue the full suite of
European index options products, Tiefenbrun (pictured)
Like Bats, Turquoise wants the European clearing market to
be reformed. For advocates of competition in clearing, the
ultimate end is a system where parties trading on any venue can
choose where their contract is cleared, and for that position
to be interchangeable with contracts at other clearing
Many doubt that this full scale
'interoperability’ is possible, even in theory
– certainly, any implementation is likely to be at
least a decade away. A more realistic medium term target for
the new trading venues is to win access to the big clearing
"I would love to offer my members the choice to clear
different products via their choice of CCP," says Tiefenbrun.
"So even if the product was not fully fungible with others
cleared by the CCP, if it was correlated there would be
tremendous margin savings for the industry."
One way in which MTFs might break the
exchanges’ dominance would be to offer lookalike
products, mimicking the exchange-owned index options.
Hush-hush talks at several operators in recent weeks have
focused on the potential for creating products with names like
the EU 50, which would be traded on the MTF at exactly the same
price as the Euro Stoxx 50, and would then be routed by the MTF
to the exchange for execution. For customers to get netting
efficiencies and limit counterparty risk the products would
need to be centrally cleared.
The process, known as internalisation, mirrors the operation
of the UK-based CFD market. Advocates claim it is "very much
welcomed" by regulators as a step toward breaking down
monopolies in derivatives.
Recent tariff reductions by Eurex suggest the incumbents are
aware of the need to keep users happy, but that is no guarantee
that the new players will have an easy ride. Quite the
Morgan Stanley and Oliver Wyman say the LSE’s
Turquoise proposition "could face challenges" in breaking the
stranglehold of existing product suites and exchanges.
"Although some users would most likely welcome more
competition in execution, it could well come at the price of
diseconomies from fragmented clearing collateral and reduced
collateral netting benefits," the analysts say. "Better
opportunities for LSE could exist in index products based on
Asian or emerging markets, leveraging the FTSE joint venture or
partnering with other index providers."
Meanwhile, another newcomer is applying the final touches to
its derivatives offering as it awaits licence approval. Dutch
MTF Tom expects to launch a range of equity options in about
the last quarter of this year.
Chief executive Willem Meijer says Tom hopes to leverage its
connections with Dutch retail investors through shareholder
BinckBank, the largest online retail investment bank in the
Netherlands, to make inroads in single name products.
"We will start with single stock options and with the help
of our stakeholders we expect to build a very significant
market share very quickly," says Meijer. "Once we have that, we
expect the incumbent exchanges to be a lot more willing to
discuss issues like open interest, as it will be a blockage for
them not to."
Tom will compete aggressively on price, Meijer says, and
will in future address the issue of obtaining intellectual
property rights for index options.
In late February its broking arm won a two year legal battle
to obtain broker membership of NYSE Liffe Amsterdam. Liffe had
wanted to know how Tom’s MTF would work before
allowing this – a condition Tom had refused.
"It’s unclear why Liffe wanted to stop us
becoming a member," Meijer says. "But I think they did it
because they are afraid of competition in derivatives."
After the case a Liffe spokesperson in Amsterdam said: "We
want to protect the integrity of our markets and we fully
intend to use all routes open to us to do so."
Liffe’s reservations are understandable
– how many exchanges would welcome rival trading
venues plugging into their systems, with no questions
But little by little, the structure of the European options
market is beginning to change, with more room for competition.
Time will tell if that makes the products more popular.
But if the US example is relevant, it shows a
continent-sized market can support multiple exchanges offering
similar sets of products. And it suggests that when these
markets are fully interconnected, as the US ones have been
since 2000, they can grow very rapidly.