37 lines
2.9 KiB
Plaintext
37 lines
2.9 KiB
Plaintext
Chapter 28: Mathematical Applications 479
|
||
Theoretical synthetic Theoretical Strike Stock D" .d d = + - + 1vi en s put price call price price price
|
||
When the ranking analysis is performed, very few synthetic puts will appear as
|
||
attractive put buys. This is because, when the customer buys a synthetic put, he must
|
||
advance the full cost of the dividend, but receives no offsetting cost reduction for the
|
||
credit being earned by the short stock position. Consequently, synthetic puts are
|
||
always more expensive, on a relative basis, than are listed puts. However, if one is par
|
||
ticularly bearish on a stock that has no listed puts, a synthetic put may still prove to
|
||
be a worthwhile investment. The recommended analysis can give him a feeling for
|
||
the reward and risk potential of the investment.
|
||
CALENDAR SPREADS
|
||
The pricing nwdel can help in determining which neutral calendar spreads are nwst
|
||
attractive. Recall that in a neutral calendar spread, one is selling a near-term call and
|
||
buying a longer-term call, when the stock is relatively close to the striking price of the
|
||
calls. The object of the spread is to capture the time decay differential between the
|
||
two options. The neutral calendar spread is normally closed when the near-term
|
||
option expires. The pricing model can aid the spreader by estimating what the prof
|
||
it potential of the spread is, as well as helping in the determination of the break-even
|
||
points of the position at near-term expiration.
|
||
To determine the maximum profit potential of the spread, assume that the near
|
||
term call expires worthless and use the pricing model to estimate the value of the
|
||
longer-term call with the stock exactly at the striking price. Since commission costs
|
||
are relatively large in spread transactions, it would be best to have the computations
|
||
include commissions. Calculating a second profit potential is sometimes useful as
|
||
well the profit if unchanged. To determine how much profit would be made if the
|
||
stock were unchanged at near-term expiration, assume that the spread is closed with
|
||
the near-term call equal to its intrinsic value (zero if the stock is currently below the
|
||
strike, or the difference between the stock price and the strike if the stock is initial
|
||
ly above the strike). Then use the pricing model to estimate the value of the longer
|
||
term call, which will then have three or six months of life remaining, with the stock
|
||
unchanged. The resulting differential between the near-term call's intrinsic value and
|
||
the estimated value of the longer-term call is an estimate of the price at which the
|
||
spread could be liquidated. The profit, of course, is that differential minus the cur
|
||
rent (initial) differential, less commissions.
|
||
In the earlier discussion of calendar spreads, it was pointed out that there is
|
||
both an upside break-even point and a downside break-even point at near-term expi
|
||
ration. These break-even points can be estimated with the use of the pricing model. |