Curatia Analysis for Tue, Apr 27, 2021

Main Street Options Investing Is Here to Stay  Sponsored

Greg Ferrari Head of U.S. Options, Nasdaq

As we assess the state of markets in preparation for a post-COVID era, a key question is: How fulsome, reliable and present will individual investors be in the emerging “new normal?”

While much of the industry agrees that Main Street investors will be a larger part of the permanent post-pandemic landscape, many in the financial industry underestimate the permanence of these investors and, just as importantly, how much the game has changed for options as well as equities.

Main Street investors are here to stay. Equity markets have done a great job welcoming this newer class of investors; it’s time for options markets to step up their game. Last week, Nasdaq launched a game-changer for individual options investors.

Main Street Is Smarter Than You Think

Some of my industry colleagues may look at individual investors in the options space as renegade yahoos, keyboard populists or inveterate gamblers left alone too long with a dearth of winning sports bets or too much stimulus money. This is not a fair take on the state of Main Street investors.

There certainly are individual investors who may be following the herd or taking their cues from social media platforms. But the state of retail traders is much more advanced than many of my counterparts give them credit for (and I’d also point out that the herd mentality sometimes happens in the institutional world).

While these newcomers may lack the resources of professional traders, individual non-professional traders run the gamut in terms of their sophistication.

Main Street investors have grown to embrace more high-risk strategies, not because they don’t perceive the risks, but because they’re employing a different calculus that prioritizes the 1,000% gain with minimal capital invested, since they have less capital to invest than professional traders. They employ sophisticated strategies like short squeezes and leveraged-volatility hedges. Their ability to move markets in their favor through coordinated action is the x-factor in that equation that they believe levels the dynamics of risk and reward.

Even in the social-media-fueled frenzy that has taken the spotlight this year, individual investors have shown a level of sophistication that runs counter to much of the industry’s conventional wisdom that tends to paint everything that could be labeled as “retail” with an overly broad brush.

Additionally, evidence suggests that the most recent retail-trading boom is not a flash in the pan. Individual investor interest will continue to move our markets.

Not Just “Meme” Stocks; Not Just Stocks

Main Street traders took center stage this year with the GameStop phenomenon in January. While volumes and retail interest in that particular stock were unique, it would be a mistake to look at that as an indicative summation of the life of a retail trader. Most Main Street active investors are focused on larger, more established stocks, as a recent shift into names like Microsoft, GM and Starbucks shows.

Retail investor interest has grown steadily over the last several decades as technology allowed consumers to connect with the financial system with ease. The current wave of individual investor interest in active trading was prompted by many popular retail platforms cutting their commissions to zero in late 2019.

The boom has extended into equity-options markets, where volumes grew nearly 60% to 27.7 million average daily contacts (ADC) in late 2020 from 2019’s 17.5 million ADC.

Data from Nasdaq Chief Economist Phil Mackintosh suggests that during the Coronavirus selloff last March, investors unwound single-stock options positions but increased market-based (index and ETF) options significantly. However, once the initial wave of volatility subsided and the recovery commenced, that activity reversed. The longer-term trend of increased single-stock options trading began, with more interest in calls than puts. And that trading peaked as the market reached new all-time highs.

A significant indicator of increased retail interest in options is the growth of these one-trade options. On a relative basis, one-trade options investing has more than doubled since 2019. We started to see the growth really pick up during 2020, and it has continued since. On a nominal basis, one-lot volume went from just under 1 million (0.8 million) in all of 2019 to 3.4 million year-to-date in 2021 (as of April 14), nearly quadrupling, according to Nasdaq Economic Research.

Many individual investors are incorporating options into their portfolios—not because they are chasing the options side of meme stocks, but because they are engaged in one of the basic tenants of the contracts: mitigating portfolios risk with the use of put options and enhancing yield by selling options against portfolio positions.

Where Nasdaq Comes In

At Nasdaq, we saw the confluence of these two important trends: increased long-term retail participation in the market with increased sophistication of investors. Individual investors are looking for value and ways to gain upside in options. And being at Nasdaq, we are acutely aware of the continued interest in expanding the universe of products around the Nasdaq-100 Index.

With the Nasdaq-100 outperforming the market, the notional size of index options is often very large, and therefore beyond the reach of most Main Street investors. And so last Thursday we announced the launch of our Nasdaq-100® Micro Index (XND) options product, which allows Main Street investors to gain access to the Nasdaq-100 in a cost-efficient way.

Nasdaq-100® Micro Index Options, representing 1/100th the full value of the Nasdaq-100 Index, gives investors a more affordable entry point. Main Street investors can now more easily mitigate risk and enhance the yield of the Nasdaq-100 utilizing this new, cost-effective tradable instrument.

Welcoming Main Street

Options are not mysterious instruments kept behind some kind of magic curtain for the few and the knowing.

Main Street investors aren’t going away, nor should they. Financial institutions should show these investors the respect they deserve by creating products that fit their needs and carry value. Our discussions led us to create XND, and we challenge our competitors to step into the arena with us.

Prior to joining Nasdaq, Greg oversaw business development for ISE. He previously served with Banc of America Securities, Lehman Brothers, and Credit Suisse First Boston in a variety of product development roles involving electronic trading.