After its successful start, Home Market Settlement prepares for further expansion

Eurex’s Home Market Settlement service for single stock derivatives demonstrated its success soon after launching on 23 September, evidenced by the trading volumes settled in its inaugural week. Volumes have since increased and are expected to rise as additional banks onboard to the service.

The fundamental principle of the Home Market Settlement is that single stock derivatives traders can now settle physical deliveries directly at the ESES CSDs — Euroclear France, Euroclear Belgium, and Euroclear Nederland. The previous market structure meant settling at Clearstream Banking Frankfurt (CBF), a setup requiring clients to move assets from their domestic CSD to CBF for settlement. This involved manual input, costing time and money, as well as carrying a heightened risk of settlement delays and failures due to the higher level of delivery instructions needed in the settlement chain. By enhancing this settlement infrastructure, Eurex created significant operational efficiencies for traders on the continent.

“The Home Market Settlement service avails settlement of physical deliveries at Euroclear Belgium, France and the Netherlands,” says Alexandra Roche, Product Manager, Citi. “This eliminates the need to realign positions from the local market to CBF and, in turn, improves settlement efficiency.”

“Given the potential reduction in risk of settlement delays and decrease in settlement costs, Citi was one of the first to offer this service to clients. Our clients have observed increased efficiencies in the settlement process and improved risk management on the back of a decrease in buy-in risk and pilfering risk from their omnibus structure.”

Simplifying vol strategy

Home market settlement promises efficiencies across the European single stock derivatives market. One area where this new structure promises particularly notable efficiencies is option volatility strategies. These involve a trader buying or selling an option while selling or buying the underlying stock.

Termed a 'delta neutral trade', the option's delta for a call can range from 0 to 1. Traders need to short an equivalent number of stocks to balance the overall option’s delta. The option’s price movements then track the underlying stock movements.

Traditionally, banks have executed this trade using the OTC market through a back-to-back transaction with another broker — receiving the trade's cash leg after trading the option. However, this strategy creates counterparty risk.

Eurex offers a fully listed alternative for option volatility strategies. Now, traders can execute a standard option and a same-day expiring single stock future as one trade on the venue. As the future expires on the evening of the transaction, the trader can then take delivery of the underlying stock on the same day.

Under the new Home Market Settlement regime, traders can now achieve further efficiencies by directly delivering the underlying stock to their preferred CSD.

Next Steps

The number of member banks in the pipeline for Home Market Settlement is growing, with more and more firms preparing for onboarding to the service in the coming weeks and months.

However, momentum is set to build beyond that, as Eurex plans to expand the service to cover Italy, allowing for physical delivery at its domestic CSD.

As Eurex continues to spread Home Market Settlement across the continent, more traders will reap the benefits of this evolution in market structure.  

This article was initially published at The Trade.