European institutional investors and banks were increasing their use of equity derivatives in the months leading up to the events of September and October 2008 but it remains unclear how much of this business will ultimately be affected by the financial crisis that has also hit structured products and equity derivative investors and traders hard.
According to Greenwich Associates, a financial services consultancy, the notional value of structured equity derivative products traded in Europe soared by two-thirds to a projected $500 billion over the 12-month period ending in June 2008. Over the same period, the share of European institutions using these products increased to 82% from 79%. US institutions, by contrast, decreased their use of such products earlier in the year.
"European accounts were moving in exactly the opposite direction to their counterparts in North America, many of which stopped using structured equity products as the global liquidity crisis set in," says Greenwich Associates consultant Jay Bennett.
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"European accounts were moving in exactly the opposite direction to their counterparts in North America"
Jay Bennett, Greenwich Associates |
More than 55% of banks principally purchase structured equity and securitized products with the intention of on-selling the instruments. Banks remain the most active users of these products, with more than 85% employing them last year. Eighty-three percent of banks that use these products sell them on to clients, as compared with 60% to 65% of investment managers and mutual funds. Institutions that do on-sell typically move 85% of their structured equity products in this manner, and direct a rising 72% to retail or high-net-worth customers.
Among the most common uses for equity derivatives among European institutions are as an overlay to broaden equity investment strategies and as a means to express directional views on individual stocks, sectors and markets. Almost half of European institutions now use derivatives for one or both of these functions. More than one in four also say they employ complex portfolio strategies that include derivatives as core components.
The surge in volatility in 2008 has led to soaring volumes in the most liquid flow products. The amount of commissions paid on equity options trades surged 55% to a projected $945 million in 2007/08 in Europe, with growth strongest in the UK.
Despite the strong increase in trading activity in highly liquid flow products as a whole, usage of options has actually decreased over the past year. In 2006/07, 82% of institutions used listed or listed look-alike options. Over the past 12 months, however, the proportion of institutions using these products has declined to less than 75%. The proportion of institutions using single-stock options fell to 58% from 80% and use of index options fell to 60% from 73%. The use of futures increased slightly, to almost 80% of European institutions from less than three-quarters.