The date was December 3, 1998. After trading in Standard & Poor’s popular ‘e-mini’ futures ended, Chicago Mercantile Exchange chairman Scott Gordon looked at the numbers with a little surprise. A staggering 35,989 futures contracts had changed hands that day, marking a new single day volume record at the exchange.
‘It was unbelievable,’ recalls Gordon. ‘Trading volume in S&P 500 futures had surpassed our greatest expectations.’
The e-mini futures contracts were the most recent attempt by global futures and options markets to capitalize on the burgeoning – some say bordering on zealous – investor interest in S&P 500 futures trading. The contracts were largely targeted toward smaller institutional and retail customers who may have felt somewhat shut out of the larger S&P futures trading.
‘At the time, our analysis suggested the time was right to introduce an equity index product suitable for smaller institutions and retail customers,’ says Gordon. ‘I think the astounding growth of e-mini S&P 500 futures shows that we were on target with a new kind of futures instrument.’ Launched September 1997, when only 7,500 contracts were traded, the growth in the e-mini futures signaled another seismic shift in the way the financial markets work, a step that investor relations officers would be remiss to ignore.
Futures takeover
‘S&P 500 futures contracts have completely taken over the stock market,’ notes John Ballin, president of Valley Forge, Pennsylvania-based Quaker Securities. Ballin, a long-time futures and options trader, says that company stocks are more susceptible than ever to the whims and vagaries of the S&P 500 futures market, and to the big institutional powerhouses that are learning to manipulate the futures market to their benefit. ‘The approximate margin for the S&P futures contracts is about $25,000,’ says Ballin. ‘And that $25,000 allows you to control about $660,000 worth of stock. With margins of less than 4 percent, it’s fairly easy to manipulate the market. Anyone at Goldman Sachs, Merrill Lynch or Salomon Brothers who wanted to push the market one way or another could do so. There had not been a mechanism to manipulate the markets until the S&P 500 futures came along.’
Others agree, saying the futures market holds too much sway over the markets, and inherently over a company’s underlying stock. ‘I think investor relations officers should be concerned,’ says Kevin Haggerty, president and co-founder of Tradehard.com, a brand new web ‘supersite’ for stock traders. ‘Heck, everyone should be concerned. What’s happened now is we have a bogus futures market. With all the pre-opening trading activity by the big institutional houses and pension funds, the New York Stock Exchange is totally being controlled. There’s no economic reason for the heavy manipulation we’re seeing.’
Haggerty goes as far as saying that the troubles that the markets are now witnessing from the growing amount of day traders entering the financial markets are a direct result of the decision by regulatory authorities to allow S&P 500 futures trading to occur before the official opening of the market. ‘I think the primary reason you have day trading is because of S&P futures trading, which stems from program trading. How can the exchanges and the Securities and Exchange Commission worry about day trading when they allow futures to trade before the opening? These small day traders don’t have a chance.’
Big impact
With futures and options contracts gyrating so wildly in these new markets, investor relations officers can expect to see the underlying stocks of their companies being even more skittish than ever. In fact, according to recent estimates that have been released by the Federal Reserve Bank of New York, the worldwide derivatives market, including options, futures, and other non-traditional equity instruments, is valued at about $80 trillion. That number positively towers over the estimated value of the entire US equity market, which the Wilshire total market index recently tagged at about $12 trillion.
Investor relations officers should also be aware of their company’s derivatives positions. ‘With that kind of clout (in the derivatives markets), investor relations officers have to know exactly what their positions are in the futures and options markets, because of the large risks that are there,’ offers Ballin. ‘But most corporate executives can’t tell you what their derivative positions are, because they don’t know.’
Ballin cites the Orange County municipal bond debacle of 1995, where billions of dollars of the county’s pension money was famously lost by a single errant futures speculator. ‘Nobody else was accountable there,’ adds Ballin. ‘There was no monitor in that scenario, just as there was no monitoring of the Barings Bank episode (when $50 bn was lost by the machinations of a single futures trader in the firm’s Singapore office). Nobody understands what these guys are doing, and I don’t know that most investor relations officers are in a position to completely understand what’s happening with the futures and options positions related to their companies.’
Wise steps
What’s an investor relations officer to do in order to get a better handle on what is happening to their company’s futures and options listings, and consequently their company stock? ‘There’s really not much you can do,’ warns Jay Gould, director of investor relations at BancOne. ‘However you can use your company’s listed options as a means of changing investors’ sentiments about your stock. For example, if you notice a large amount of trading activity in your listed options, that could be an opportunity to notify the investor community and gain some additional trading activity in your stock.’
While actually getting onto the Standard & Poor’s 500 index can be a significant boon to any US company, Gould notes that there is also one hefty disadvantage that comes with it. ‘There is a downside to being included in an index,’ he considers. ‘You can end up getting some disproportionate moves in your stock related to options and futures, especially at particularly sensitive times such as triple witching hours.’ (Triple witching hours occur four days during the year when contracts on stock options, index options and index futures all expire on the same day. Triple witching hours typically add volatility as portfolio managers suddenly rush to buy or sell stocks so that they can square their positions.)
Gould comments that this resulting volatility can cause some pretty anxious moments in the investor relations department. ‘As the index moves, so do you,’ he remarks. ‘If it’s in the triple witching hour and the S&P 500 takes a tumble or moves up, then you are going to move with the group. During this critical period of time around the options expiration, you can get some undue volatility.’
‘The only people who get disturbed by this are individual investors who may not know it’s a triple witching option expiration day. They watch the stock pop up or down, and your phone rings off the hook on Monday as they wonder if you’ve made an announcement,’ Gould adds.
Other investor relations officers say that since there is little that you can do about what happens in the futures and options markets, you can at least make sure you’re prepared in advance for the wild market gyrations. ‘With triple witching days for the futures and options market, know what the dates are, so be prepared to get a lot of volume in your stock that day, and some volatility in the price,’ advises Len Griehs, investor relations director at Campbell’s Soup.
That is sound advice. Ever since regulatory authorities green-lighted the trading of listed options on the Chicago Board Options Exchange (CBOE) in 1973, investor relations officers have taken a much deeper interest in the ensuing impact of options and futures on company stocks. With the accelerated interest in new related markets, like the S&P 500 futures market, traders say that investor relations officers are going to have to devote even more attention to what is going on in these trading venues.
Getting to know them
‘Futures and options will always accelerate the movement of a company’s stock,’ explains Haggerty. ‘If you take away the futures activity, take away the speculation out there, things would run a whole lot smoother. But with the bushels of cash that the big institutional houses and the hedge fund firms are making in these newer markets, that is just not going to happen. So the best that you can do is to research these markets, know the dates, such as triple-witching hour, where things can get a little bit dicey, and be knowledgeable about what futures are and what options are so that you can easily reassure those investors who will inevitably be calling you.’
‘What you have got to remember is that so much of what happens in the derivatives markets really has nothing to do with your company,’ Haggerty continues. ‘So there is a sense of helplessness when things don’t go well for you and your stock goes down because of some big sell-off in a futures market. You can’t help that, but you can educate your investors as to what is happening.’
