Investors had to reconsider their risk and manage their exposures recently given the outlook for U.S. economic activity with the introduction of tariffs on a variety of trading partners. As depicted in Exhibit 1, this has resulted in option implied volatility rising rapidly, with varying magnitudes of impact across sectors, indicating relative rewards for sector-weighting decisions.

Sector futures and options can be deployed in a variety of strategies, including: strategic and tactical tilts to facilitate sector rotation; spreading opportunities, allowing the capture of the differences between sector indices and their constituent stocks or broader indices and portfolio overlays that hedge unintended sector risks. 

Exhibit 2 illustrates the price performance of the S&P U.S. Select Sector Index since 2024, depicting a range of over 30% among the sectors. 

During March 2025, defensive sectors sentiment in Energy and Health Care Select Sectors led the way in Q1, up 10% and 7%, respectively, as depicted in table 1. In comparison, the S&P 500 was down 4.59% in Q1.

Table 1: Price performance of S&P U.S. Select Sectors and Dow Jones Sector in Q1 2025.

Exhibit 3 depicts how the average monthly correlation among S&P 500® stocks has changed over time. Correlation was historically high after the 2008 global financial crisis, but it attenuated over the next decade, further picking up during the COVID-19 pandemic and the 2022 bear market bringing a temporary return to the average. With lower correlation in observed stock returns, the options market will typically reflect market participants’ expectations for a differing risk environment, as expressed in terms of implied volatility.

Diversification is a way of spreading exposures and may boost risk-adjusted returns over periods as and when opportunities arise. Market participants may consider cross-sector versus index relative value opportunities when considering both implied and historical volatility as depicted in Exhibit 4.
Additionally, gaining beta exposure to an entire sector while reducing single-company risk. For further insights, please refer to Tactics and Strategy with Equity Sectors.

Under this scenario, options can provide precision in managing risks around policy changes as well as events like earnings announcements. Investors can protect against market movements, for example, for downside protection against earnings by purchasing put options on the technology select sector index. Protective puts on futures offer a simple and effective way to mitigate the risks of market downturns while keeping your portfolio positioned for upside.

Where uncertainty exists, investors will need to manage and incorporate:

• Pricing risk – Expressing volatility and directional views
  Market participants looking to capture the difference between implied and realized volatility can take directional views on which are overvalued (sell) or undervalued (buy).
• Straddles – For less directional conviction and more neutral positions that profit from volatility. In this position, a market participant buys a call and put with the same strike price and expiration date on an underlying asset to leverage volatility in either direction.
• Strangles – Similarly, another neutral position, whereby a market participant buys or sells a call and put at different strike prices on the same expiry.
• Timing risk – Using calendar spreads, investors can combine the buying and selling of sector index contracts with different maturities.
• Hedging market risk and managing directional risk – Hedge unintended sector risk in stock-specific portfolios or to fine-tune a broad market hedging instrument such as S&P 500 futures on a tactical basis.
• Outright options and strategies  – Strategies using option packages that spread out exposure, like:
  • Vertical spreads are options contracts on an underlying asset that are either both a call or put but have different strike prices on the same expiry. It's a trade that reflects a trader's view that a price will move in an expected direction.
  • Variations via calendar spreads or ratio spreads.

Demand has been growing over the last few years to trade and risk-manage U.S. sector index exposures in a transparent, standardized format via listed futures and options on futures. Being exchange-traded and cleared helps mitigate counterparty risk, which is particularly important for derivatives, structured products as well as other market participants like hedge funds and asset owners/managers.

A total of seven Sector options are available, including six options on E-mini S&P Select Sector futures and options on Dow Jones U.S. Real Estate futures:

• Options on E-mini S&P Select Sector Energy Index futures (XAE)
• Options on E-mini S&P Select Sector Financial Index futures (XAF)
• Options on E-mini S&P Select Sector Health Care Index futures (XAV)
• Options on E-mini S&P Select Sector Industrial Index futures (XAI)
• Options on E-mini S&P Select Sector Technology Index futures (XAK)
• Options on E-mini S&P Select Sector Utilities Index futures (XAU)
• Options on Dow Jones U.S. Real Estate Index futures (RX)

Sector index options on futures are contracts that give the holder the right, but not the obligation, to buy or sell a Sector index futures contract at a predetermined price within a specified time frame. Sector index options are physically delivered into the underlying futures. The listing cycle is quarterly for the next two consecutive quarterly contracts. They're American-style options, which means they can be exercised and assigned at any time up to expiration.²

Market participants can use various execution choices to deploy their trades. There's functionality that allows the delta to be assigned with execution of options and futures; thus when hedging options with futures slippage can be minimized.

Centralized Limit Order Book (CLOB) – Flexibility in execution choice when trading options, or as privately negotiated blocks, providing an alternative to the opaque OTC market. While pricing on the CLOB is anonymous and credit agnostic, the screen liquidity provided by market makers offers transparency of prices and indications of tradable size.

Options strategy flexibility – On the CME Globex platform, traders can initiate various option strategies on screen, from simple "outright" trades to complex, multi-leg strategies to fine-tune Greek exposures near expiry. The platform supports user-defined options spreads (UDS), and ‌RFQs (request for quotes) allows for the creation of a centralized limit order book (CLOB) for each UDS. Traders have the ability to implement multi-leg strategies and utilize RFQs while remaining anonymous. They can also effectively manage risks with up to 40 legs, reducing the impact of "leg risk" and bid/ask spreads. RFQs work alongside screen liquidity and enable investors to‌ obtain better prices without any obligation.

CME Direct exhibits screen liquidity for Select Sector index options, as shown in the CLOB screenshot (Exhibit 6).

• Block trading liquidity enables market participants to transact larger sizes, minimizing slippage and market impact risk.
• Block transactions can be privately negotiated, consummated and reported, thus mitigating breakup risk.
• Both screen and block trade structures allow delta management, minimizing slippage when hedging options with futures.
• Market participants should consult the contract specifications for additional details, including block requirements and reporting information as they're subject to change. Find liquidity providers.

Regarding the trading costs in respect of exchange fees, one can compare what it would cost to trade the options on equivalent select sector ETFs to that of the cost of trading sector ETFs vs options on futures.

From a trading cost perspective, based on exchange fees alone and excluding execution and clearing (FCM) fees, options on Select Sector index futures compare favorably to the options on the select sector index ETFs. This is based on the following assumptions:

• To trade a notional amount of $100M as an example. 
• Trading at least 100 lots as an outright. 
• Exclude execution and clearing (FCM) fees.  
• Comparing customer non-member rates, on this basis, the cost for customers can see reductions of between 71-91% relative to the options on the ETF market.
• Note that 5 out of the 7 sectors have notionals in options on futures that are 10x the equivalent options on the ETF notional.

Source: CME Group, CBOE based on a snapshot as of March 19, 2025
Fee assumptions based on the following fees:
https://www.cmegroup.com/company/clearing-fees.html
https://cdn.cboe.com/resources/membership/Cboe_FeeSchedule.pdf
* assumptions for customer, >100 contracts
CME fee on option on futures - $0.55; CBOT fee on option on futures - $1.38; CBOE ETF option fee - $0.18

When managing portfolio risk, operational and capital efficiencies can benefit options traders regardless of risk tolerance.

• Capital efficiency: CME Clearing provides margin offsets between options on Select Sector index futures and the underlying Select Sector index futures and options on Select Sector futures will also have margin offsets with the broader Equity Index complex, such as E-mini S&P 500 futures (ES).
• Centralized clearing allows market participants to offset their positions in listed futures and options, thus allowing for capital efficiency via portfolio margining.
• The ability to portfolio margin between futures and options may allow for posting significantly less margin, which may also help to facilitate cross-hedging opportunities.
• For example, the initial margin on a long position in E-mini Energy Select Sector futures is currently approximately 7%. As a comparison, an OTC sector swap under ISDA SIMM margin requirements (UMR) currently has 19% initial margin, so futures offer 12% capital savings.³ The equivalent ETF is fully funded, so futures offer 93% capital savings.
• Some fully funded investors may choose to hold stocks in a margin account, but that would require a minimum of 50%. In this scenario, futures offer 43% capital savings.⁴
• Market participants may qualify for margin offsets with other contracts, including offsets specific to the underlying Equity Index futures.
• CME CORE is an interactive margin calculator that enables you to determine and evaluate your initial margin requirements and run indicative margin requirements on all of our products.

• Appeal to a wide range of investors:
  • Buy-side and sell-side: Banks, asset managers, hedge funds‌ and proprietary trading desk
  • Equity investors: Manage and hedge directional risk.
  • Relative value investors: Capture spreading opportunities.
  • Liquidity providers and market makers: Enhance market liquidity.
  • Macro investors: Express and overlay macroeconomic views.
• Hedge uncertainty, transfer risk, express market views‌ and manage exposures.
• Explore diversification via spreading exposures and cross-sector versus index relative value opportunities.
• Cost efficiency: Given larger notional sizes on options on futures, they can be potentially more cost efficient on adjacent markets, particularly for customers (non-member) where they can see reductions of at least 70%.
• Flexibility: Wide variety of options strategies, direct index volatility trading‌ and delta-hedged solutions. Transparent execution CLOB or privately negotiated blocks.
• Liquidity: ADV in S&P Select Sector Index futures of around 21,000 lots.
• Operational and capital efficiencies, which can benefit options traders.

Characteristics of options on Select Sector index futures

• Time decay: Value decreases as expiration approaches.
• Volatility: High price fluctuations can affect option value.
• Liquidity: Some options may have lower liquidity.
• Complexity: Requires a deep understanding of market dynamics and option pricing.

• S&P U.S. Indices Methodology
• Dow Jones Global Indices Methodology

[1] UDS - User-Defined Spreads

[2] FAQ: Options on Sector futures, Factcard for Sector index futures

[3] https://www.isda.org/a/b4ugE/ISDA-SIMM_v2.6_PUBLIC.pdf

[4] https://www.cmegroup.com/articles/2022/capital-efficiency-and-listed-equity-derivatives-take-center-stage-for-final-umr-phases.html

Target Portfolio Exposure with Equity Sector Futures

Natural Selection: Tactics and Strategy with Equity Sectors