Bloomberg News

FTSE 100 Puts Highest to Europe as Traders Lock in Gain: Options

November 01, 2011

Nov. 1 (Bloomberg) -- Options traders are driving the cost of FTSE 100 Index puts to record highs versus Euro Stoxx 50 Index contracts, concerned U.K. Prime Minister David Cameron’s plan for fiscal austerity will curtail economic growth.

FTSE options trading 10 percent below the index cost 1.63 times more than contracts 10 percent above, according to data compiled by Bloomberg. The value, known as skew, for the Euro Stoxx 50 Index was 1.38 yesterday. The ratio between the numbers surged to a record high on Oct. 28, the data show.

While British stocks have performed better than 20 out of 24 developed markets this year amid the European financial crisis, traders are betting equities will fall after Cameron pledged to eliminate the nation’s deficit by 2015. The FTSE has surged 57 percent since global equities bottomed in 2009, almost twice the gain for the European measure.

“The rally may have burnt itself out,” Max King, London- based investment strategist at Investec Asset Management, which oversees about $55 billion, said in a phone interview yesterday. “The market’s had a great run, but everyone was and is very skeptical about the debt crisis. We are more inclined to take money off the table.”

The FTSE 100, a gauge of the largest companies traded on the London Stock Exchange, lost 6 percent this year through yesterday. Only the Standard & Poor’s 500 Index, the New Zealand Exchange Limited 50 Free Float Total Return Index and Ireland’s ISEQ Overall Index have done better. The Euro Stoxx 50 retreated 15 percent.

26% Drop

Puts to protect against a 26 percent decline in the U.K. index to 4,100 by December 2012 had the largest increase among all contracts on the measure last month, rising to 42,950 contracts from zero at the end of September. The gauge hasn’t closed below that level since April 2009.

Spending by Cameron’s government exceeded revenue by 63.5 billion pounds ($102 billion) in the six months through Sept. 30, shrinking from 71 billion a year earlier, and on course for the target of cutting borrowing by 15 billion pounds of cuts in the year through March, the government said on Oct. 21.

The ratio between the price of the FTSE and Euro Stoxx 50 surged to 2.57 in September, a level never seen before the introduction of the common currency in 1999, as investors sought companies that generate income outside the region. FTSE members get 30 percent of sales outside Europe, according to data compiled by Royal Bank of Scotland Group Plc. That’s about 20 percent greater than the Euro Stoxx 50.

‘Better Cards’

“The U.K. has the better cards,” Patrick Moonen, who helps oversee about $500 billion as senior strategist at ING Investment Management in The Hague, Netherlands, said in a telephone interview yesterday. “If you look at global growth indicators, outside of Europe is where there’s clear improvement. The U.K. is a global growth story, whereas Europe remains a sovereign debt story.”

The U.K. economy grew faster than forecast in the third quarter as manufacturing and services industries rebounded from disruptions during the previous three months. Gross domestic product rose 0.5 percent from the second quarter, when it increased 0.1 percent, the Office for National Statistics said today. Economists forecast a 0.3 percent increase, based on the median estimate of 36 economists in a Bloomberg News survey.

Equities on the European continent benefited more from the announcement that leaders had a plan to contain the debt crisis. The Euro Stoxx 50 Index jumped 6.1 percent on Oct. 27, twice as much as the FTSE, after the regional rescue fund was increased to 1 trillion euros ($1.4 trillion) and investors agreed to a voluntary writedown of 50 percent on Greek debt.

‘Extreme Measures’

“Although it was light on detail, it showed the intention of the euro zone leaders to be willing to pull out extreme measures,” Daniel Hawkins, director and founder of Mariana Capital Markets Ltd., a London-based brokerage firm specializing in equity derivatives, said in a phone interview. “The likelihood of a cataclysmic event in the next two to three months has been reduced.”

The VStoxx Index, which measures the cost of Euro Stoxx 50 options, fell 25 percent last month, the most since October 2003, to 35.12. It jumped 22 percent to 42.96 today. FTSE’s volatility in October plunged 32 percent, the biggest drop since April 2003, to 25.78. The gauge surged 25 percent to 32.27 today. The Chicago Board Options Exchange Volatility Index sank 30 percent to 29.96 last month, before advancing 16 percent to 34.77 today.

Chance of Contraction

Bank of England Markets Director Paul Fisher said during an Oct. 26 interview that there may be a “50-50” chance the U.K. economy will contract in the fourth quarter. He said expanding monetary stimulus by 75 billion pounds was the minimum amount needed to shore up the economy.

Options traders boosted bearish wagers after valuations surged. The price-earnings ratio for the FTSE was 9 times analysts’ profit estimates for the next year on Sept. 12, a record 24 percent higher than the multiple for the Euro Stoxx 50, data compiled by Bloomberg show. The difference narrowed to 11 percent yesterday, exceeding the 4 percent average since 2006 when using projections for current-year income.

The Euro Stoxx 50 beat the FTSE last month by the most since January, rising 9.4 percent versus 8.1 percent.

“Because of all the negativity around the euro zone and the problems there, people had been much more negative on that market,” Chad Deakins, an Atlanta-based manager of an international equity fund for RidgeWorth Capital Management, said in a telephone interview yesterday. His firm oversees $45 billion. “Now that it looks like they’re getting some agreement, the first signs of cooperation, the valuations were more depressed and people may be more positive on the euro zone at this point than the U.K.”

--With assistance from Scott Hamilton, Adam Haigh, Jennifer Ryan and Svenja O’Donnell in London and Jeff Kearns in New York. Editors: Joanna Ossinger, Nick Baker

To contact the reporters on this story: Cecile Vannucci in Amsterdam at cvannucci1@bloomberg.net; Inyoung Hwang in New York at ihwang7@bloomberg.net

To contact the editors responsible for this story: Nick Baker at nbaker7@bloomberg.net; Andrew Rummer at arummer@bloomberg.net


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