CHICAGO European institutional investors account for an estimated 10 percent of U.S.-listed option volume and this amount is likely to increase as global regulatory efforts reduce risk, according to a study by advisory firm TABB Group.
The interviews for the study were done in June and July 2011 and at that time, total U.S. option volume averaged about 17 million contracts per day.
European investors view the U.S. equity options market as attractive due to its transparency, liquidity and execution quality, said TABB Group.
The new research found these European investors represent a potential source of demand for U.S. options as they have considerable U.S. equity assets under management.
TABB expects demand for options to continue because of their broad exposure to U.S. equities. European holdings of U.S. equity-related securities total $1.3 trillion, equal to 46 percent of total foreign ownership of U.S. equities.
"There is considerable latent demand from asset managers, hedge funds and private wealth management accounts," wrote Andy Nybo, a TABB principal, head of derivatives and the study's author. Hedge funds in Europe alone now account for 58 percent of total European trading in U.S. listed options, Nybo added.
European investors are active in U.S. equity markets and use equity options as part of their strategies to manage risk and generate returns.
"Global regulatory efforts to reduce risk are refocusing investors` preferences to centrally cleared, exchange-traded products with U.S.-listed options markets ranking high on their list of attractive opportunities," Nybo said.
But the biggest challenge facing these investors trading U.S. options is a lack of understanding, including the unfamiliarity with the trading process and U.S. options market structure.
Industry efforts to better educate investors on the appropriate use of options strategies would go a long way to increase demand, the report said.
"We also believe that there's considerable confusion around the constantly evolving options-market structure with European participants complaining about the lack of clarity in how the market operates," Nybo said.
European investors are active users of index and single-stock options but they are exploring how to expand trading activity in exchange-traded funds, volatility and weekly option products, Nybo said.
"More aggressive trading strategies deployed by hedge funds will drive short-term growth in European activity but greater demand from asset managers and private wealth accounts will add to volumes over time," he added.
The 30-page TABB report was commissioned by the Options Industry Council.