The new market paradigm makes derivatives even more necessary to overcome uncertainty


The Covid-19 crisis caused extreme scenarios to materialize, affecting all asset classes and causing unprecedented regime changes in financial market structures. In a context where interest rates remain at historically low levels, bonds no longer fulfil their protective role, equities have become expensive, certain asset classes have re-correlated and investment opportunities for standard assets are becoming scarce. What are the implications for derivatives?

With over 30 years of experience in derivatives markets, Societe Generale has "adjusted and adapted" to this challenging environment by "providing investors and companies with innovative investment, financing and hedging solutions to protect themselves against market movements and uncertainty, while meeting performance goals", stressed Jean-François Grégoire, Global Head of Global Markets at Societe Generale, in his keynote speech at the 6th Derivatives Solutions conference, organized on 14 October by the Group in partnership with and CME Group.

But what is the state of the derivatives market at the dawn of this new market paradigm? Are we moving towards new approaches to investing in derivatives? 

At this conference, senior portfolio managers from major volatility funds discussed the future of these derivatives in a panel moderated by Delphine Limpalaer, Head of UK Flow Sales at Societe Generale. "Liquidity, structured products and politics are the three main themes raised by the managers at the conference," she said. 

The events of 2020 have a different kind of impact on volatility compared to the events of the 2009-2010 crisis. They have made the situation difficult for most investors in terms of liquidity, especially given the reduction in the number of players on the volatility market, the withdrawal of some banks in particular, and a less concentrated activity.

This context has led many investors to move more towards vanilla and listed products to the detriment of the most sophisticated over-the-counter (OTC) derivatives, which offer the most attractive returns. If this trend were to accelerate, standard derivatives would become the products of the future within the family of derivatives.

However, it also creates more opportunities for investors with investment capacity. In terms of market dynamics, all panelists agree that structured products will become more important than ever and that pressure on index volatility will return. At the same time, buying flows from retail investors, which have been observed in recent months, could also resurface. Finally, politics are a major point of uncertainty. While polls currently show Joe Biden as the winner of the US election, the volatility around the event is judged by the panel to be probably overestimated. The two presidents would a priori have the same impact on the markets in the long term.

In this context, what strategy should one implement?

"The panelists shared the best strategies of the moment, several of them being sellers of correlation between indices, thus taking advantage of the current high level of correlation," says Delphine Limpalaer. "For most participants, dispersion is a key theme for 2020, as this strategy has performed well since the beginning of the year and should attract more investment flows.”

"Today, the need for these innovative strategies and products is more relevant than ever," says Jean-François Grégoire, adding that "the future of investment has changed (...). We are moving towards a new normality in terms of lifestyle, social distancing, ESG priority, resilience over profitability. These challenges make solutions derived from the tools needed to deliver managed results in an unpredictable world.

For Jean-François Grégoire, Societe Generale "is well positioned for the future to support its clients and to extend its positioning as a world leader in derivative solutions". This summer, the Bank demonstrated its determination to meet client needs by constantly striving to diversify its offer of "autocall" structured products, by increasing the proportion of less risky products in its books, by being more selective in terms of risks when it comes to standard products and by offering innovative alternative solutions.