Interesting thought here from Stacey Gilbert on Fast Money last night (hat tip Kevin).
At about 11:00 of the video on the bottom of this page she discusses going long beaten down and heavily shorted VMWare (VMW) , Sears (SHLD) , and Under Armour (UA), but with a twist.
But instead of buying the stock, establish a position in the options market by buying calls and then selling the corresponding put. Why? She says it will allow you to establish a synthetic position in the company and enhance returns if the stock gets any kind of short squeeze.
Forget about the merits of going long these pups for a sec., let's look at the concept of doing it synthetically. Like in VMW, maybe that means going long the October 50 calls and short the October 50 puts 1:1. Using the current markets, that let's you create stock for $1.30 under where VMW trades.
Magic? Not really. The relationship between puts and calls on a given line and the stock is based on the cost of carry, But in difficult to borrow stocks, that cost of carry is negative as you get charged money to go short. So thus you can synthetically create stock at a discount to the actual price. There is no arb, since the charge on the short would eat up the difference.
But let's say you simply want to buy the stock. It does make sense to do it with the options. I believe she is correct in this thought, but if someone has a counter argument, please chime in.
Best I can come up with is that option markets are not as liquid as a stock, and you have to leg in and out of two of them, so one should expect lots of slippage.
9 comments:
Adam, Thank you for the explanation!
Being the former market maker that you are, Adam, you know all about conversions/reversals and the creation of synthetic positions.
Synthetics are the way to go because they cost less: the margin you need to go short the option is always going to be less than owning/shorting the stock outright. And if your credit covers the debit on the long...well, so much the better.
Of course, as you also know, you lose money on this synthetic long if the stocks goes down.
Oh, well, c'est las vie.
For good discussions of synthetic positions, see "The Option Trader Handbook" by George Jabbour and Philip Budwick.
Adam, for you, (and everyone else) I also highly recommend Charles Cottle's book, "Options Trading: The Hidden Reality." It's a book for the retail investor written from the perspective of a market maker.
He goes into terrific detail on conversions/reversals, position dissection and "carding up." Having read his book -- not without some effort -- I have never looked at the options markets the same way again.
tanks Kevin.
Karl, yeah, it goes on the presumption you actually want to own this pup. And the synthetic is just the better alternative. I have to say, I never thought of this angle. As a market maker, I just look at the arb, and it's always in line.
Say you could get the stock short. And put on the synthetic long. You might get the arb?
Key is the hard-to-borrowness. Am I wrong?
yes. The options are priced to the expense of the borrow. So there's no real arb. at any given time, although you can "bet" on the cost. USO just went from 5% to like 2% to borrow, so in theory if you were short puts, long calls, short stock, you had a modest winner. BUT not sure how far out they priced that 5%, might have only been in the near month, in which case that "windfall" is negligible.
You could also just buy a DEEEEP call, which would be like the synthentic long with put protection...Lenny has already figured this out, I know.
I'm gonna go hit SBUX, before they close it...
I love how they're having trouble because they can't pass along inflated coffee prices. Coffee is like 5 cents of the price of the drink, might be a bit of margin already built in there.
Lenny indeed. In fact SBUX is like his perfect stock. Famous, cheap, he can probably even write a description of them without cutting and pasting Yahoo Finance. Perfect!
On SBUX, the biggest variable cost is rent most likely triple nets.
As a results, facilities expenses are going through the roof, especially since most folks like to stay warm while waiting in line, which ashcans the idea of altering the thermostat.
Meanwhile it turns out that consumers who were once price inelastic when it came to coffee are now snapping back like rubber bands.
Top that off with McDonald's and Dunkin' Donuts increasing their quality and offering choice...
...well ya got a 3-part whammy for short the bux, short the bux, short the bux.
yeah, i beat the rush, been loyal to DD for years now. I like it better and it's way cheaper. SBUX is more like a place to go if you're staying for some reason. Not for actual food though, lol.
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