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Credit futures and options trading grows on volatility

This article was first published in Global Investor Group.

Adoption of credit index futures and exchange-traded fund options accelerated as the markets were hit by volatility last week, market experts have said.

Shifting interest rate expectations and contagion risks harmed performance earlier in the year, but Juan Reig Mascarell, global head of credit solutions and exotics trading at JP Morgan, said recent flows showed how more firms are using listed derivatives to trade credit.

“Trading in macro products such as high yield and credit indices has accelerated in the last week,” he said on a panel at the Eurex Derivatives Forum event in Frankfurt last Thursday. “Derivatives on exchange-traded fund and credit indices are coming together as the product of choice to quickly express views on credit. Traditional investors would use these instruments as hedging tools and that has now expanded to include directional positions and ETFs are used by multi-asset allocators to express views in credit. So that ecosystem is feeding liquidity, and we have even seen portfolio trading emerge from asset managers.”

Lee Bartholomew, global head of fixed income product research and development at Eurex, said market participants had become more comfortable trading on exchange versus tradition over-the-counter credit markets.

“What we have been able to do is get the sell side to get comfortable that the products could co-exist with their business,” Bartholomew said. “It’s become another liquidity pool that they can develop and move risk on and off. That is still very nascent but they are building, some want to use it tactically, some take advantage of leverage and the ease of futures. ETF market-makers are coming in and helping to develop that liquidity pool alongside the traditional banks. So it's about how we create that environment to develop meaningful liquidity in a pool that is additive. We are moving the right direction.”

Eurex in September launched its first futures on European high yield corporate bonds, based on a Bloomberg index, in response to volatility and an increase in perceived risk.

Credit markets have been buffeted by declines in sentiment driven by persistent inflation and worsening conditions for companies.

“Whilst the overall absolute performance has been negative in credit markets, I have to say they have been very resilient to all these exogenous shocks and at the same time could benefit from the secular trends that have supported liquidity,” Mascarell added.

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