FLASH FRIDAY: Retail options trading brings regulatory scrutiny

FLASH FRIDAY is a weekly content series about the past, present and future of capital markets trading and technology. FLASH FRIDAY is sponsored by Instinet, a Nomura Company.

In March 2005, options markets were the fastest growing segment of the retail community. At that time, Matt Andresen, president of Citadel Execution Services, told Traders Magazine that continued growth in trading volume will attract regulatory scrutiny.

Steve Sosnick

Fast forward to July 2022 and it looks like market participation from retail investors continues to grow. According to Steve Sosnick, chief strategist at Interactive Brokers, the options market was a steadily growing business that accelerated during the pandemic.

“The unique combination of lockdowns, stimulus checks and a bull market has sparked the interest of a wide range of individual investors in options,” he said.

Total options volume for 2021 reached 9.9 billion contracts, a 32% increase from 2020, according to the Options Clearing Corporation (OCC). “We’ve seen an incredible increase in cleared contract volumes for options, in part due to retailer participation,” said Julie Bauer, OCC’s head of external relations.

Steve Sanders, Senior Vice President of Marketing and Product Development at Interactive Brokers, confirmed the strong demand for options from their active clients, traders and institutional investors. “In fact, compared to the prior year quarter, 2Q22 option volumes across the industry were up 8%,” he said.


Over the years, the Financial Industry Regulatory Authority (FINRA) has taken steps to deal with complex products and options, including issuing advice on sales practice issues raised by complex products and options; issuing alerts to investors to highlight the risks of these products; adopt rules with specific requirements for particular complex products and options; and review member compliance with SEC and FINRA rules.

A FINRA spokesperson told Traders Magazine that now is a good time to “revisit this space and, ever mindful of our mission to protect investors, consider whether the current regulatory framework is working in the current environment.”

“Soliciting the views of all interested parties is an essential step in answering this question,” a spokesperson said.

“If FINRA decides to propose rule changes, we will follow the typical rulemaking process, which includes additional opportunities for public comment, a thorough assessment of any economic impact, filing the proposal with the SEC, the release of the filing for comment and the SEC’s determination to approve or deny the proposal,” a spokesperson added.

Shane Swanson

Shane Swanson, director of research, market structure and technology, Coalition Greenwich, said “undoubtedly” regulators will put more emphasis on where there will be growth in retail markets.

“The regulatory pendulum looks set to continue swinging in one direction – towards more regulation,” he argued.

“As an industry, we are already quite busy and adding more rules to review, comment on and/or implement in the short term is going to be quite a task at this point,” he added.

Meanwhile, Erik Swanson, CEO of Simplex Trading, believes there is already a really strong and robust regulatory apparatus.

“I think regulators have a lot of tools to make sure retail investors are protected,” he said.

“I also think the industry is doing a really good job of trying to make sure their customers have a very positive experience,” he added.

Angelo Evangelou, head of market policy and government affairs at Cboe Global Markets, agrees, saying the existing regulatory framework is stringent enough.

“FINRA and the national securities exchanges in the United States have issued strong and relevant guidelines over the years regarding the suitability of options. This proven advice has served investors and the industry well,” he said.

He believes that the current regulatory framework for listed options is sound and that no changes are necessary.

“Reforms of existing rules and/or more rules are not necessary,” Evangelou said.

He added that the listed options integration process and disclosure regime go beyond what is required in many other industries.

“The current options regulatory framework is proven and not broken; major surgery is not required. It is important that investors’ access to listed options and the valuable benefits they provide is not diminished,” he stressed.

Erik Swanson

Education is the key

According to FINRA, options trading can be risky if investors do not have the financial background necessary to understand options and options trading strategies.

Should retail traders be required to pass tests to be allowed to trade options? “I wouldn’t say it should be strictly necessary. But I understand the impulse to want to make sure people understand the products they are trading,” said Swanson of Simplex Trading.

Meanwhile, Swanson from Coalition Greenwich commented that it’s one of those ideas that sounds good in theory, but then you have to decide who creates the test, what the test covers, how to make sure the test doesn’t is not biased and a host of other potential issues.

“Generally speaking, the free market should remain freely accessible, but education is an essential part of the process,” he said.

“Ensuring that the right information is readily available and easily understood by new entrants to retail is an ongoing obligation of markets,” he added.

Angelo Evangelou

Evangelou said the current regulatory framework for listed options is sound and changes are not warranted. “It is important to note that there should be no minimum eligibility requirements, mandatory testing or mandatory certification for investors to use listed options and realize their benefits,” he said.

Currently, most FINRA members rely solely on the delivery of the “Standardized Options Characteristics and Risks” (also known as the Options Disclosure Document or ODD) issued by the OCC to provide clients information relating to the risks of trading options.

Evangelou explained that the ODD serves as a prospectus for listed options, explaining the characteristics and risks of listed options, and is specifically required and designed to contain information that addresses various topics for investors.

Additionally, he added, there is solid (and free) options education that is readily available in various formats for investors to easily digest.

“The industry and the investor each have a role to play in ensuring that options are properly understood and used,” he said.

“Furthermore, the options industry goes above and beyond countless other industries in terms of education and disclosure – retail traders should not be required to pass tests in order to harness the utility of listed options” , did he declare.

In June 2022, the OCC launched the SDG Quick Guide to help investors better navigate the features and risks of standardized options, which brokers are required to provide investors with before they can trade options.

According to Bauer, “more and more individuals are becoming investors, and investor education covers a wide range of topics to meet investors where they are.”

Swanson of Simplex Trading said that before the surge in retail trading, most retail investors didn’t really know much about options or hadn’t thought about trading options.

However, the industry has done a “great job” of providing educational tools for clients to learn how options trading works, to gain an increasing level of sophistication, and how they use options tools.

Sosnick added that some people have recognized that options can also be very useful tools for hedging and speculating during choppy and bearish markets, but the explosive growth has clearly waned.

“To the extent that individuals have taken the time to educate themselves on the different strategies one can employ in various market conditions, volume growth should continue, although it is hard to imagine the pace of 2020-21 can be maintained,” he concluded.

Garland K. Long