TABB Says US Equity Options Market Makers Need Scalable Technology to Compete in Today’s Complex Market Structure

NEW YORK & LONDON--(BUSINESS WIRE)--US equity options market makers tell TABB Group they are re-examining business models due to declining volumes, stagnating volatility and rising technology expenses that have created a business environment favoring larger firms with technology capable of scaling.

“US options market making has become a cutthroat business”

According to new TABB research, “US Options Market Making 2013: Scale, Scope and Survival,” written by Andy Nybo, a principal and head of derivatives, structural shifts in the US equity options markets are forcing these firms to invest continually in technology to support the complexity of providing liquidity across a fragmented exchange landscape. Those that cannot invest face limited growth prospects in all but the narrowest of niches.

Large market-making firms, Nybo points out, spend an average of $28.8 million annually on technology to support options market making, while small firms spend an average $2.9 million.

“US options market making has become a cutthroat business,” Nybo says, explaining that many firms are openly questioning their ability to survive, confronted by rising technology costs to support their activities where minimizing latency has become a key to success. Adding to the pressure is competition from high-frequency trading firms that is forcing market makers to invest significant resources in IT systems to support ever faster trading protocols.

As a result, Nybo says, market makers plan to utilize automated, high-frequency trading systems for 94% of their total activity in 2013.

Competitive pressures are also causing market-making firms to examine their current business models and explore different ways to grow their business. “During our interviews, we learned many firms are already exploring how to expand into new business lines by leveraging existing technology and capabilities,” says Nybo. “These firms are trading alongside their market-making operations as proprietary accounts, establishing hedge funds and offering advisory services to the buy side.”

Market makers do see potential growth opportunities, identifying exchange complex order books (COBs), weekly options and volatility products as new areas for expansion. Specifically, these firms told TABB they are particularly bullish on exchange COBs with the proportion of their volume executed in these exchange facilities set to increase to 22% of total activity in 2013.

TABB Group interviewed 26 options market makers operating on one or more of the existing 11 US options exchanges for this report, accounting for an estimated 45% of total industry volume. The report covers:

Products offering the most attractive growth opportunities, from complex orders to extended hours trading
Biggest challenges facing equity options market makers
Biggest regulatory headaches
The challenges of low volatility
Optimal number of options exchanges
Activity executed through black-box strategies, phone and point-and-click, 2011-2013
Technology spending to support options market-making businesses
Ranking of IT challenges
Initiatives undertaken post-Knight incident
Importance of access to order flow
Best exchange model to create liquidity
Value of a trade reporting facility

The Executive Summary for this 34-page report with 32 exhibits is available now for download by TABB Group Research Alliance Derivatives clients and qualified media at www.tabbgroup.com. For more information or to order the report, write to info@tabbgroup.com.

About TABB Group

With offices in New York, London and expanding across the Asia-Pacific region, TABB Group is the financial industry’s only strategic advisory and research firm focused solely on capital markets, based on the proven interview-based research methodology of “first-person knowledge” developed by founder Larry Tabb. For more information, visit www.tabbgroup.com. In January 2010, TABB launched TabbFORUM, the online global capital markets community covering opinions and analyses on current industry issues, tracked daily by over 15,000 industry professionals.