Pension fund, endowment execs rarely use options
Survey respondents cite policy restrictions, complexity as reasons
By Timothy Inklebarger | May 2, 2011
(updated with correction)
Executives at defined benefit plans and endowments and foundations do not understand and largely do not utilize options in their investment portfolios, a survey by Pensions & Investments and the Options Industry Council shows.
Some 71% of those responding to the survey said neither they nor their money managers use listed or over-the-counter options; 16% use listed and OTC options; 11% use listed options only; and 2% use only OTC options.
When asked to select up to three choices, executives at funds that don't use options said a greater understanding of options risks (43%) and strategies' impacts (42%) would make the use of options more acceptable at their funds.
They also cited greater access to tools and educational materials (34%), a shift in internal bias toward options usage (32%) and a greater understanding of portfolio protection aspects of options (28%).
When asked to pick up to three reasons for not using options, restrictions in investment policy was chosen 46% of the time, followed by the complexity associated with options, 40%; institutional or cultural bias, 29%; risk associated with options, 26%; regulation and adherence to ERISA, 20%; staff skills, 19%; and headline risk, 17%.
Philip Gocke, managing director of the Options Industry Council, said he was surprised that 52.3% of 111 respondents have made no change to their risk management focus since the financial crisis.
“In the past 11 years, we have experienced the bursting of two bubbles, tech and housing; endured two significant economic recessions; experienced two black-swan events — May 6 flash crash and March 11 Japanese earthquake and tsunami; one major financial/banking crisis and an almost lost decade of investment results,” he said in an e-mailed response to questions.
“It would be incredible to think that a majority of respondents are bound to repeat this investment history by not learning from this history and not employing risk-mitigating strategies.”
For those making a change to their risk management focus, 23.4% said they were increasing their focus on counterparty risk; 16.2% said they formed, or placed greater reliance on, a risk management committee; 12.6% adopted or purchased a risk management tool or system; and 6.3% implemented a tail-risk strategy.
In a telephone interview, Mr. Gocke said institutional investors have not overwhelmingly used options to mitigate risk, but added his organization aims to educate them on the benefits of options.
“My mission isn't to be a pure advocate for the use of options,” he said. “I'm here to advocate the proper use of options. If (institutional investors) don't have back-office facilities and knowledge of (options) strategies, then I don't expect them to start trading puts and calls.”
Sixty-two percent (eight of 13 respondents who don't use options) said they would need a greater understanding of options before using them.
Of 19 survey respondents who use options in their portfolios:
• 89.5% use equity options;
• 42.1% use foreign exchange options;
• 31.6% use cash index options;
• 26.3% each use volatility options and commodities options; and
• 21.1% use ETF options.
• Seventy-four percent of the 19 said they plan to maintain their equity options usage over the next year, and 26.3% said they plan to increase their use of equity options.