43 lines
2.4 KiB
Plaintext
43 lines
2.4 KiB
Plaintext
442
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Sell a call (bear) spread:
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Buy April 80 call
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Sell April 70 call
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Net credit on calls
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Sell a put (bull) spread:
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Buy April 70 put
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Sell April 80 put
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Net credit on puts
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Total credit of position
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3 debit
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81/2 credit
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1 debit
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6 credit
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Part IV: Additional Considerations
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5 credit
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10 1/2 credit
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In this case, no matter where XYZ is at expiration, the position can be bought back
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for 10 points. This means that the arbitrageur has locked in risk-free profit of¼
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point. To verify this statement, first assume that XYZ is above 80 at April expiration.
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The puts will expire worthless, and the call spread will have widened to 10 points -
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the cost to buy it back. Alternatively, if XYZ were between 70 and 80 at April expira
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tion, the long, out-of-the-money options would expire worthless and the in-the
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money combination would cost 10 points to buy back. (For example, the arbitrageur
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could let himself be put at 80, buying stock there, and called at 70, selling the stock
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there - a net "cost" to liquidate of 10 points.) Finally, if XYZ were below 70 at expi
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ration, the calls would expire worthless and the put spread would have widened to 10
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points. It could then be closed out at a cost of 10 points. In each case, the arbitrageur
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is able to liquidate the box spread by buying it back at 10.
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In this sale of a box spread, he would earn interest on the credit received while
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he holds the position.
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There is an additional factor in the profitability of the box spread. Since the sale
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of a box generates a credit, the arbitrageur who sells a box will earn a small amount
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of money from that sale. Conversely, the purchaser of a box spread will have a charge
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for carrying cost. Since profit margins may be small in a box arbitrage, these carrying
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costs can have a definite effect. As a result, boxes may actually be sold for 5 points,
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even though the striking prices are 5 points apart, and the arbitrageur can still make
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money because of the interest earned.
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These box spreads are not easy to find. If one does appear, the act of doing the
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arbitrage will soon make the arbitrage impossible. In fact, this is true of any type of
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arbitrage; it cannot be executed indefinitely because the mere act of arbitraging will
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force the prices back into line. Occasionally, the arbitrageur will be able to find the
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option quotes to his liking, especially in volatile markets, and can establish a risk-free |