Finadium has released a new research report, “Single Stock Futures, Prime Brokerage and Securities Lending,” looking at SSFs in the context of other equity finance business activities. The report features a look at OneChicago, the US single stock futures exchange, and its changing fortunes.
In most parts of the world single stock futures (SSFs) are easy to understand; they operate by regular rules of futures markets and in some jurisdictions are widely traded. SSFs compete directly with options, contracts for differences (CFDs) and OTC equity derivatives, but each seem to have their established place in the markets. In contrast to this normalcy in much of the world, the USʼs SSF markets have been the subject of debate since they launched in the early 2000. The last surviving US SSF market, OneChicago, has struggled to gain acceptance and today continues to argue its merits not only before regulators, but also to the Internal Revenue Service and to the prime brokers who have historically seen it as a direct threat.
At the same time, SSFs fit a key requirement as banks move towards compliance with Basel III and related national regulations. These products are cleared on a central counterparty (CCP), giving them a risk weight of 2% as opposed to the capital charges that banks would assume for bilateral equity derivative transactions or securities loans. A concurrent reduction in risk-weighted assets would also allow banks to reduce their own Liquidity Coverage Ratios.
Securities lenders can also see benefits in the SSF market, depending on where their allegiances lie and how ready their systems are to take advantage. While SSFs themselves do not create a financing obligation, demand for a securities loan comes from two types of activities. First, a market maker hedging a SSF position may want to short an equity to stay market neutral. The lower the market makerʼs cost of financing, the tighter a spread it can offer in the SSF market. Since SSF spreads and financing costs are typically comparable to street-side pricing for securities loans, beneficial owners aligned with a SSF market maker could split the difference between prime broker borrow and lending fees. This could result in net benefits to the beneficial owner.
Second, SSFs in some markets including the US can deliver into physical stock on expiration. A short SSF then becomes a short equity position, and stock needs to be delivered for settlement. Just as the SSF has a financing cost built into the spread, the expired SSF turns into an equity with the financing cost of the securities loan.
Finadium’s new report looks at the mechanics of SSFs to help determine the role of this product in the market for prime brokers and beneficial owners in securities lending. This report should be read by prime brokers, securities lending agents, beneficial owners in securities lending and portfolio managers of long/short funds.
For more information and the table of contents, please visit the Finadium website.