37 lines
2.9 KiB
Plaintext
37 lines
2.9 KiB
Plaintext
438 Part IV: Additional Considerations
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Put price = Striking price + Call price - Stock price - Fixed cost
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Furthermore, if the stock is at the striking price, the formula reduces to:
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Put price = Call price - Fixed cost
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So, whenever the fixed cost, which is equal to the carrying charge less the dividends,
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is greater than zero (and it usually is), the put will sell for less than the call if a stock
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is at the striking price. Only in the case of a large-dividend-paying stock, when the
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fixed cost becomes negative (that is, it is not a cost, but a credit), does the reverse
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hold true. This is supportive evidence for statements made earlier that at-the-money
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calls sell for more than at-the-money puts, all other things being equal. The reader
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can see quite clearly that it has nothing to do with supply and demand for the puts
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and calls, a fallacy that is sometimes proffered. This same sort of analysis can be used
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to prove the broader statement that calls have a greater time value premium than
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puts do, except in the case of a large-dividend-paying stock.
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One final word of advice should be offered to the public customer. He may
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sometimes be able to find conversions or reversals, by using the simplistic formula,
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that appear to have profit potentials that exceed commission costs. Such positions do
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exist from time to time, but the rate of return to the public customer will almost
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assuredly be less than the short-term cost of money. If it were not, arbitrageurs would
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be onto the position very quickly. The public option trader may not actually be think
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ing in terms of comparing the profit potential of a position with what he could get by
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placing the money into a bank, but he must do so to convince himself that he cannot
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feasibly attempt conversion or reversal arbitrages.
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THE "INTEREST PLAY"
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In the preceding discussion of reversal arbitrage, it is apparent that a substantial por
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tion of the arbitrageur's profits may be due to the interest earned on the credit of the
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position. Another type of position is used by many arbitrageurs to take advantage of
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this interest earned. The arbitrageur sells the underlying stock short and simultane
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ously buys an in-the-money call that is trading slightly over parity. The actual amount
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over parity that the arbitrageur can afford to pay for the call is determined by the
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interest that he will earn from his short sale and the dividend payout before expira
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tion. He does not use a put in this type of position. In fact, this "interest play" strat
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egy is merely a reversal arbitrage without the short put. This slight variation has a
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residual benefit for the arbitrageur: If the underlying stock should drop dramatically
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in price, he could make large profits because he is short the underlying stock. In any
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case, he will make his interest credit less the amount of time value premium paid for
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the call less any dividends lost. |