Despite the FTSE 100's 3% jump on Monday, Thursday's risk event continues to promise extreme moves whatever the outcome.
In fact, surging stocks, sterling currency pairs and bond yields, whilst welcome, also underline how vulnerable markets are to fresh adverse stimuli (like another swing in referendum polls, perhaps).
For instance, jitters were well evidence on Tuesday afternoon, particularly in sterling, when the latest Brexit soundings trimmed Remain’s razor-thin lead even further.
Investors’ main worry is that billions of pounds ‘wiped-on’ to blue-chips on Monday, after Remain regained that lead, could easily be wiped-off again.
They’re even warier, after the FTSE’s whipsaw a couple of weeks ago, a pattern normally only seen in currency markets.
Many equity investors closed-out after that, perhaps only to buy back in this week, at a cost.
So what about investors wishing to remain exposed to the FTSE, despite pronounced risks? After all, the FTSE is often an essential hedge and an easy way to capture freak jumps across blue chips, like Monday’s.
Options are one solution for such situations. And given that the referendum could be the biggest 'binary' event markets have seen for decades, index options can tell us a lot about how the world’s biggest investors are managing stock market risks.
FTSE options have understandably been in demand, though, as per sterling, that demand pushed premiums to multi-year highs, chilling the market a bit, before buying picked up again this week.
Among nearer-term deals, the most traded option early in the week was Intercontinental Exchange’s (ICE) 6500 call, expiring on 15th July.
Its premium almost doubled on Monday, but that’s where the clear logic of such trades goes a bit wrong.
That’s because even if the FTSE rose about 330 points from its Monday close, the 6500 deal would only break-even.
On that basis, perhaps we should assume FTSE option bulls have either thundering conviction, or are just foolhardy.
After all, the minimum lot of 10, costing, £370 would only return a fair profit if the FTSE rose to 6741.13 (or higher)—500 points away from Monday’s close.
What are the chances?
More importantly, a closer look at this market shows bearish FTSE options traders will outnumber bulls for the rest of the year.
The highest open interest, according to ICE data checked on Tuesday, was 51,848 for puts on 5000, expiring in December.
The most bought calls, with 49,374 contracts outstanding, had a 6000 strike, expiring in September.
For the very near future, the bears will also be in control.
The most active puts also expire on 15th July, with a 5700 strike and open interest of 19,323. They outnumber the calls on 6500, where open interest is 11,496.
Puts on 5100, 5500, 5800, 5900 and 6000 in July and later months are also busy, though in lower numbers, skewing the entire curve bearish.
All in all, shorter-term bears seem prepared to pay the most to play.
Premium for the mid-July 5700 put is an even more punishing £500 per lot. And a 554 point FTSE slide to 5650 would still leave the option worth zilch.
Once more, we could conclude that FTSE option bears have either great conviction, or poor-judgement.
But more plausibly, this recent surge in FTSE options likely buttress existing hedges and other positions, with elevated cost not proving a barrier, judging by the £1.2bn in notional value on the 5700 put alone.
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