SEC Approval Opens the Door to Event-Based Trading in the Securities Markets

Prediction-market-style trading is entering the securities markets. On October 13, the Securities and Exchange Commission (SEC) approved Cboe Exchange, Inc.’s (Cboe) proposal to list binary options tied to specified corporate key performance indicators (KPIs). Although their all-or-nothing payouts resemble event contracts, the SEC approved the products as standardized securities options.

The approval provides a new approach to corporate event-based trading amid continuing debate over whether certain corporate event contracts should be treated as swaps, security-based swaps or other regulated instruments. Rather than resolving that broader jurisdictional question, the SEC concluded that Cboe’s binary KPI options are securities options because the underlying KPIs are material inputs into the value of, or represent an interest in, the relevant issuers’ securities. Chairman Paul S. Atkins described the approval as reflecting a “new spirit of harmonization, innovation, and investor choice,” while emphasizing that it does not address whether differently structured KPI contracts may fall within the CFTC’s jurisdiction.

What Are Binary KPI Options?

A KPI is a financial or operating metric reported by a company. Under Cboe’s approved rules, the relevant KPI must appear in an earnings-related SEC filing, such as a Form 8-K, 10-Q or 10-K.

A binary KPI option is a cash-settled, European-style option that pays a fixed $1 at expiration if a company-reported KPI meets the specified strike, or nothing if it does not. A call pays when the KPI is at or above the strike; a put pays when it is below. For example, a contract might ask whether quarterly revenue will reach a stated amount, regardless of whether revenue increased from the prior quarter.

The products are structured as exchange-listed securities options and are not limited solely to institutional investors. However, retail availability will remain subject to applicable customer account requirements and to whether a customer’s broker offers the products.  Cboe must also satisfy the remaining clearing and disclosure conditions before the products may be listed.

Eligible KPIs include financial measures such as earnings per share, revenue, margins and free cash flow, as well as company-specific operating metrics such as: 

• Apple Inc.’s iPhone and Services sales
• Alphabet Inc.’s Google Cloud revenue
• Robinhood Markets, Inc.’s funded customers
• Tesla, Inc.’s Model 3/Y production
• Marathon Digital Holdings, Inc.’s Bitcoin production and holdings

Unlike a conventional equity option, the product isolates a specific component of the company’s reported performance rather than tracking its stock price.

Implications

The products will operate within the existing securities-options framework and will be subject to Cboe rules governing customer accounts, margin, trading halts, market makers, order types and position limits. Under Cboe’s current margin rules, binary KPI options will be fully funded. Trading will also be subject to exchange and SEC surveillance, including controls addressing manipulation and insider trading.

The options may be used for speculation, but Cboe also presented them as targeted hedging instruments. An investor holding a company’s stock could, for example, hedge the risk that a particular quarterly metric falls short without selling the underlying stock. Further, because settlement depends on corporate information that may be known internally before public disclosure, the products raise heightened concerns about material nonpublic information. Cboe has stated that existing insider-trading restrictions and surveillance procedures will apply.

Settlement will be based on the KPI reported in the issuer’s applicable earnings-related SEC filing. A later restatement will not change an option that has already expired and settled, and alternative settlement procedures apply if the KPI is delayed, omitted or unavailable. The products also cannot launch until the applicable clearing-agency filings and disclosure materials have been approved or become effective following SEC review.

Conclusion

Cboe’s binary KPI options will allow investors to trade directly on specific corporate performance metrics, such as revenue, earnings or production figures. The approval therefore marks a potentially significant expansion of event-based trading into the securities markets, while leaving open the question of how differently structured corporate event contracts should be regulated.