Swaption volumes by strike, Q4 2024
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Ali Curi: Hi everyone, and welcome to ION Markets Quick Takes, I'm Ali Curi. And every week, along with my guests, Chris Barnes and Mark Bell, we take a quick dive into the headlines on the Clarus blog.

Let's get started. Hi, Chris. Hi, Mark. 

Chris Barnes: Hey, Ali. How you doing? 

Mark Bell: Hey, Ali. 

Ali Curi: Hello, gentlemen. Welcome back to Quick Takes.

Chris, let's start with you. What's your Quick Take for this week? Which headline from the Clarus FT blog would you like to discuss? 

Chris Barnes: Alright, first of all Ali, today is a special day. Today marks the day where I have worked in derivatives for more than half of my life. I started trading at 22. I'm now still working in derivatives.

Anyone who wants to do the maths can therefore work out exactly how old I am now. It feels like a real thing. It's like a half life. It's like I have my life before I knew what a derivative was, and now I have my life talking about them. Today to mark that very special occasion, I will be talking about swaptions.

The latest blog we've done is "Swaption Volumes by Strike for the Last Quarter of 2024." I realized that we're a little bit into 25 now, but that's kind of a signal of just how much content we really have to cover these days. And I really enjoy writing these blogs. This is a series of quarterly reviews on swaptions.

Gives us a chance to kind of stop and pause, look through the, let's say, craziness of current markets and volatility and really look back at what happened. And the first thing with these blogs that I always look at is the range that 10 year swaps traded in for dollars. Last quarter, we had over a 100 basis point range in 10 year swaps.

When I've done these blogs in the past, because we've got a big body of work, I can go back and look. And those ranges have really been of the order of magnitude of 30 basis points. And sometimes, like a big quarter, we'll have a range of 60 basis points. So to see this 100 basis point range in Q4, it really speaks to the fundamental repricing that the market went through in the run up to the U.S. election. So of course, all of this is old news, but I find it really beneficial to kind of sit back and reflect and look at what happened and then bring that through into what we saw in terms of the activity in swaptions. Because whilst we had this big range of activity on 10 year swaps, if you go down and look at the normal heat map, we make a heat map where it just looks at notional activity in 25 basis point increments.

I should say at this point, if you're not familiar with the blog, you really need to see these for that description to make sense. But I have never traded swaptions. And part of me was like, "Oh God, we've had a 100 basis point range. I'm going to have to move all of these grids to the right." You know, I was expecting to see more activity at higher strikes.

Now we do see more activity at higher strikes, but it's not like that grid has gone past the like 7%, right? Even though our at the monies are higher, we're not extending the range of strikes that trade. And so when you're thinking about this from a risk management perspective and from a vol surface, it's quite useful.

It's quite a physical demonstration of what a swaptions trader actually looks like, right? It's not as if their grids are moving left and right as rates are changing. It's just where those red bits are. And so I found that a compelling case that whilst the analysis we do here is very crude, it's very simple.

Again, It's what Clarus really focus on, which is trying to track volumes of activity over time, as opposed to trying to give you trading signals related to prices and, uh, tracking open interest. This is far more about volumes traded. It really does give an insight into how people actually trade this on a day-to-day basis.

Second point I wanted to make on the blog is that because we're talking about the last quarter as regular listeners and readers will know in that last quarter, there was a change to block sizes. And so block sizes generally have gone up. What that means is that we see larger notionals reported to SDRs.

What it means for bloggers like me is that it's really, really hard to make sense of the data. So when we've looked at swaptions activity compared to Q4 of 2023, we've looked at trade numbers as we always do. And whilst trade numbers have been pretty static, what I wanted to call out is that the number of block trades have reduced from about 25 percent of the total to 8%.

That, broadly speaking, is very similar to what we've seen in swaps as well. And I thought that was a really good justification of the regulatory regime. I don't believe that block sizes were calibrated with swaptions data. Block sizes were calibrated, I think, on a clean subset of interest rate swaps data.

And yeah, it works in interest rate swaps. The same block sizes are used for swaptions. Okay, there's no real reason to think that swaptions trade in different sizes to the linear market, but it is possible. But the point of the block sizes is that we should see a reduced number and it shouldn't go to zero.

Right. There should still be a portion of the market, which is so large that it takes dealers a long time to get that risk through. And that has worked through and that has worked through in the data. And about 8 percent of swaptions now are flagged in dollars as capped. That is pretty much as intended.

Again, a sign that transparency works. That the regulatory regime is fit for purpose and that we don't really need any specific tweaks. We don't need more complexity yet. Finally, the only thing I would highlight is that Clarus go through and we do identify straddles. In the data, about 70 or 80 percent of activity in the dealer to dealer market is tied to straddles.

By our data, it's possible that that figure is even higher because we might miss a couple. And when you look at the straddle heat map, I think it's possible that in future quarters, when that 10 year rate is not as volatile, is not covering a 100 basis point range, that those heat maps really, really compress.

And so that's one thing I'm looking forward to following up on for Q1 of 2025, which I'll try and do as soon as possible is really comparing the difference and the ranges of activities. Mark, that was a whistle stop tour of swaptions in Q4. Any specific questions from you? 

Mark Bell: Well, swaptions certainly is something that I like looking at and I know the readers like the blogs and it's one of the blogs I think that gets forwarded around the world often.

I'm interested in the heatmaps actually, particularly the pair and the receiver heatmaps. If you look at the concentrations, when you look at the pair and the receiver concentrations, the payer concentration seems to have a strike slightly higher than the receiver concentration, about 25%. And this is just based on my visually looking at it.

What can we interpret from that slightly different heat map for the payers and the receivers? 

Chris Barnes: That makes exact sense, because out of the money options, trade and the new activity is tied to out of the money options, right? If you're buying an in the money payer, then you're paying the premium to where the rates already are.

So it makes sense that the strikes on payers are higher. Equally for receivers, you're buying out of the money receivers. So the strikes are lower. 

Mark Bell: Just a second question. The data also shows some swaps and packages. What packages are there? We don't identify them at Clarus, but I'd be interested to know exactly what packages they might be tied to.

Is it just a package with a swap or something else? 

Chris Barnes: No, so... many, many packages really ranging from structured products, which exactly as you say, could have a swap embedded to, let's speak about our colleague, John Skinner to compression. Swaptions are used to move around, to move bilateral Delta that sits outside of clearing houses, into clearing houses.

And so there's lots of ways of structuring synthetic swaps, which can also be flagged as packages. Now, in terms of actual trading strategies, those are as numerous as there are options trading strategies as well, right? So there is a whole raft of things that we could be analyzing the swaptions data for.

Mark Bell: At Clarus, we have a risk platform that we often have to build market data or surfaces for. And we've actually been using the swaption data to identify the liquidity at certain points to be able to optimize the way we build the surface or build scenarios against that surface. So it's certainly been data that we've used ourselves, not just in our blogs, but actually with the products that we, the risk products that we deliver to our customers.

Chris Barnes: Yeah, and I think the response to these blogs speaks to that as well. Every time I publish a blog on swaptions, somebody contacts me and says, I would like your swaptions data. There is a kind of a desire out there to make more use of this data because it's clear that it's not going away. It's clear that it's getting better and better with time. It's clear that the tools available are getting better as well. And so there is undoubtedly more and more interest in swaptions and other kind of niche corners of the data than I've ever seen before. 

Ali on that note, back over to you. 

Ali Curi: Thank you, Chris. And please share with us again, the title of your blog post.

Chris Barnes: That was "Swaption Volumes by Strike, Q4 2024." 

Mark Bell: That works. Chris Barnes, Mark Bell, thank you both for sharing your Quick Takes. Let's do it again next week. 

Chris Barnes: Look forward to it, Ali. Thank you very much. 

Mark Bell: Thanks, Ali. 

Ali Curi: And that's our episode for today. You can read more about these topics on the Clarus blog, and you can follow ION Markets on X and on LinkedIn.

Thank you for joining us.