Good posts so far, I had similar questions. Some of your questions seemed fairly obvious to me though, I read their website and materials for a while. As I understand it, OneChicago basically only charges the service of bringing the counterparties together (the fees he linked to), while not being defined as an exchange because they "create" the EFPs from products already existing on the other exchanges. That's my simplistic understanding anyway. The only recognizable risk I can see in selling EFPs is that the OCC (AA+ rated) defaults while you have an open position. This seems unlikely, but as with any potential defaults (like you compared Spain and Greece) there are ways to inform yourself on the likelyhood of that happening if you do your due dilligence. So I wouldn't say it's "absent credit risk" like you say. I also don't see a problem with the huge spreads as like he said, if you trade EFPs, you will want to hold them to expiration anyway. The only time you'd want to close positions before expiration is if the OCC is about to default in which case even a 20% spread should be OK. By transaction costs friction he probably meant transaction costs, where the word friction is just a poetic term to describe decreased profits. I sold some EFPs in small volumes as a test (via ONE) and the costs were as expected, no slippage occured. As to why there is a 20% spread on EFPs while the underlyings are much tighter, that's an interesting question. I suspect that since mostly institutionals use EFPs, this will depend a lot on the ease of borrowing the underlying stock, and the fact that there aren't as many participants. Market making never was very efficient in any intrest rate instrument, in my opinion, so why would it be in this niche part of the market? Anyway, it doesn't impact EFP trading if you hold to expiration, but I would be interested also to hear a theory as to why the spreads are so different if comparing the synthetic EFPs to the underlying legs.
Hmm, so I am currently a little confused: - you do not transact - you are not a counter party to any transaction - you are not an exchange (which is contrary to statements on your website) - you are not a clearer So, you describe yourself as a financier? A financier who does not actually finance anything but borrows from others. Hmm, that is getting a little confusing here. And to add to that, with all that absent credit risk, zero delta, I mean you pretty much told us there is zero risk to those transactions except "transaction friction" (which I still fail to understand), so, I mean, could you explain to us once again why you show 20% relative wide spreads on many of your products when most of the underlyings of your SSFs trade at about 4-5 basis point spreads?
Sorry, Hmm, so I am currently a little confused: - you do not transact This is correct - you are not a counter party to any transaction This is correct - you are not an exchange (which is contrary to statements on your website) Sorry for the confusion. CME is often called and exchange but they really have a Designated Contract Market license. NYSE is and exchange. It depends on whether you are regulated by the SEC (exchange) or CFTC (DCM). It is similar to the word "Margin". On the securities side it represents a loan. On the Futures side it is a performance bond. It is often used interchangeably in error. - you are not a clearer That is correct. So, you describe yourself as a financier? I have never described by self as a financier. A financier who does not actually finance anything but borrows from others. I don't borrow from anyone. Hmm, that is getting a little confusing here. I really don't understand your confusion. You seem to get it. And to add to that, with all that absent credit risk, zero delta, I mean you pretty much told us there is zero risk to those transactions except "transaction friction" (which I still fail to understand), I'll try again. Transactions costs act as a friction on potential profits. so, I mean, could you explain to us once again why you show 20% relative wide spreads on many of your products when most of the underlyings of your SSFs trade at about 4-5 basis point spreads? We display what the market participants are actively quoting. Buying and selling the underlying is a risk trade. There are many buyers and sellers that compete that tighten the bid/ask spread. EFPs are a interest rate trade. Accordingly it would be useful to look at other interest rate facilities as a comparison. Lets pick on Interactive Brokers. They borrow from you (by you depositing money) at zero % and they even charge you for borrowing General collateral names. Negative interest. When you want to borrow from them under 1 mm you pay 117 bps. So the comparative spread is 117 bps. (117 -0) With that view how does the 20 bps "bid/ask" look now? Best
If your strategy is long stock shares and short SSF contract, and your goal is highest possible rate of return, are you better off going after EFP scenario with highest bid rate or lower bid rate? (I noticed that the lower the stock PPS is, usually the higher the bid rate is. But I imagine holding time period influences this as well) Lets say I executed this specific EFP (I am not looking for advise or hand holding. Merely want to understand the math) KGC1D 2012-08 Bid shows .0066 Size = 100 So say I take this out, Buy 10,000 shares Short 100 SSF contracts On the long side, my debit is approximately $77,409 for stock shares. Do I get any credit for selling the 100 SSF contracts to reduce the debit amount above? When SSF contracts expire in August and the shares are taken away, I pocket the .0066 credit per share? So if each share is $7.74 and assume my holding period was 30 days, that comes out to an annualized rate of return of basically 1%. Do I have this correct? Thanks
If you are short SSF that means you are short EFP, it's always the same, meaning you should sell at the highest bid rate. In IBs TWS you can set to show the bid column as annualized intrest for EFP contracts. Most of the highest bids are around 1.5% annualized, but i'm not sure how they actually calculate that. Maybe someone could shed some light on that too, I didn't do the math to check if it's calculated based on total market value or on debit/credit or some other method.
While SSF can and should sit in a securities account the answer is no they aren't covered by SIPC. SSF are not an asset. They are a contingent liability that is marked to market every day. Check with your clearing firm for more details. Best.
I'm curious to know why the SSF "should" sit in a securities account if there is no SIPC coverage for the product. How might the type of underlying account (commodities vs. securities) affect the viability of the EFP transaction?
Better capital treatment. If the SSF leg is in a futures account they are subject to a higher initial performance bond of ~20%. If the SSF sits in a securities account with the offsetting stock position the bond is ~5%. You can find more margin offsets in our rule book: http://www.onechicago.com/?page_id=2697 Schedule A to Chapter 5. Best.
tnx for the very useful idea. What about stock dividends when you are shorting a future and/or holding a stock for just a small period of time? Do these effects cancel at expiration time?