Asset managers increasingly use derivatives

Traditional fund managers are increasingly using exchange-traded equity derivatives, as their investment strategies move away from long-only strategies in favour of absolute return, portable alpha and yield enhancement.

In a study of 55 buy-side futures and options traders at a variety of hedge funds and asset-management firms, Tabb Group, a Westborough, Massachusetts-based financial markets advisory firm, found that traditional long-only managers are increasingly using derivatives to enhance returns, mitigate risk and gain exposure to restricted markets.

“As an increasing number of traditional fund managers migrate from long-only to 120/20 and 130/30 portfolios and become more adept at managing risk, employing absolute return strategies and extending leverage, derivatives will become a more important part of traditional investment strategies,” wrote Andy Nybo, senior analyst at Tabb Group.

As this evolution occurs, institutional investors will need more sophisticated technology to process derivatives, as current order management, execution management and direct market access systems are poorly connected. Developments in electronic connectivity, including algorithmic trading, will allow innovative managers to access the markets, Tabb Group found.

“The equity derivatives markets are on the cusp of transformation. The best fund managers will continue to embrace derivatives. Those that don’t will simply fall behind,” said Larry Tabb, the firm’s chief executive.