Futures play to an empty house
Single stock futures: Investors fear they won't escape from 'roach motel' trades
Jason Chow Financial Post, with files from Bloomberg News and Dow Jones
Tuesday, November 12, 2002
Christinne Muschi, National Post
Luc Bertrand, president of the Montreal Exchange, says there is an appetite for futures and said the exchange is planning to launch a batch of futures contracts on highly liquid stocks next year.
Single stock futures finally made their debut in the United States last week. The question the market has to answer is whether investors will care. Judging from the response so far in Canada to the futures trading in Montreal, the response is not very encouraging.
With single stock futures, investors can now play the stock market just as farmers have played the commodities market for generations. Farmers have long been able to hedge against price fluctuations by buying a futures contract that allows them to sell their product at a set price at a future date, but U.S. equity investors have been forbidden to buy futures contracts for the stocks of individual companies.
That's now changed with opening of the OneChicago and Nasdaq Liffe Markets (NQLX) exchanges. After years of regulatory hurdles, the two began trading single-stock futures contracts last Friday.
Market reaction has so far been tepid and some investors including George Fontanillis, co-founder of brokerage firm Optionetics in Belmont, Ca. wonder if there's enough interest to sustain the new products. Total volume at OneChicago on Friday amounted to about 3,000 contracts while just over 5,300 traded on NQLX.
Mr. Fontanillis said he's waiting for liquidity to increase to at least 10,000 in a single contract before he jumps in.
"I don't want to create a roach motel trade," he said. "That's where you can get in, but you can't get out."
In Canada, the Montreal Exchange has been trading single-stock futures contracts on Nortel Corp. shares since last year, but interest has whittled to almost zero volume. Still, Luc Bertrand, the exchange's president, thinks there is an appetite for futures and said the exchange is planning on launching a batch of futures contracts on highly liquid stocks next year.
"I think there's a huge opportunity, but we have a lot of education to do," he said. "Single-stock futures have not really had a great response."
The major competition stock futures face is from options. Both offer investors a chance to hedge against price fluctuations. An options contract requires an investor to pay a small amount per share for the right to buy a stock at an agreed-upon price at a certain date.
A futures contract is different in that it obliges the buyer and seller to make good on their deal rather than just offer the choice. Also, a futures contract requires an investor to commit at least one-fifth of the stock's set price as opposed to the smaller contract fee on options.
U.S. regulators have banned single-stock futures since 1982 as it was perceived the contracts would lead to greater volatility and be harmful for the long-term health of financial markets. OneChicago currently lists futures contracts on 21 stocks and the NQLX listed contracts on 10 stocks and four exchange-traded funds.
Still, exchange president Mr. Bertrand said futures contracts on highly liquid stocks would appeal to investors who want to balance out their portfolios.
For example, a fund manager whose portfolio models the TSX/S&P 60 index can protect himself from a future slide in Nortel stock by selling a futures contract, he said.
Others have touted futures contracts as an effective vehicle for shorting stock. Unlike the cash stock market, here is no uptick rule in the futures market that prohibits the selling of a stock if the last price movement was down.
For Price Headley, president at derivatives research firm BigTrends.com in Cincinatti, the main advantage of the futures market is in the leverage. While buying cash stock requires investors to pay out at least half the price, representing a 50% margin, a futures contract commits investors to only a 20% margin.
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Posted by Les on the CFZ thread |
