Options on Secured Overnight Financing Rate (SOFR) futuresbecame available for trading Monday, and 10 contracts changedhands—five lots of a straddle, in which a put and a call with thesame strike are bought, anticipating an increase in volatility.

The trade involved the 98.625 strike in December 2020 options onthree-month SOFR futures, according to open-interest data releasedby CME Group Inc., which lists the contracts. The straddles weretraded at a price of 37 ticks, according to several tradersfamiliar with the transactions who asked not to be identifiedbecause they aren't authorized to speak publicly.

The SOFR is a reference rate administered by the Federal ReserveBank of New York that's intended to replace the scandal-plaguedLondon Interbank Offered Rate (LIBOR), which is under threat ofextinction.

See also:

• LIBOR's Demise Will Up-end Derivatives
• "Zombie LIBOR" Threatens Market's ComplacentView
• LIBOR's Looming Demise Is a Massive FinancialEngineering Task
• Battle of the Benchmarks Continues
• LIBOR Replacement Contenders

SOFR futures were rolled out in 2018 by CME, whose eurodollarfutures contract—with settlement based on LIBOR—remains itsmost-traded product. CME has proposed that in the event that Liborbecomes unavailable, existing eurodollar futures and optionscontracts will be settled based on SOFR.

A buyer of the straddle benefits from an increase in implied orrealized volatility in the underlying futures. In recent months,volatility has increased as the market priced in more Fed policyeasing, and vice versa.

For qualifying market makers, CME is waiving fees until June 30for options on three-month SOFR futures and is giving a $1 feecredit for each transaction, capped at $30,000 per month.

Bid and offer prices were quoted Monday for several dozen putand call strikes, most of which were within five strikes of beingat-the-money, according to a trader. Most of the spreads were 1.5basis points (bps) to 2 bps.

In eurodollar options, spreads for near-the-money strikes aregenerally not more than 0.5 bps. However, open interest in theunderlying futures dwarfs open interest in SOFR futures. Forexample, open interest exceeds 1 million in the four nearestquarterly eurodollar contracts. Open interest in SOFR futures isless than 400,000 contracts in total.

At least one major trader said it's making markets in SOFRoptions. DRW Holdings LLC, one of the world's biggesthigh-frequency traders, is doing so both electronically and viaopen outcry, according to a spokesperson.

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