24 lines
1.7 KiB
Plaintext
24 lines
1.7 KiB
Plaintext
Other Call Buying Strategies
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In this chapter, two additional strategies that utilize the purchase of call options are
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described. Both of these strategies involve buying calls against the short sale of the
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underlying stock. When listed puts are traded on the underlying stock, these strate
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gies are often less effective than when they are implemented with the use of put
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options. However, the concept is important, and sometimes these strategies are more
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viable in markets where calls are ve:iy liquid but puts are not. These strategies are
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generally known as "synthetic" strategies.
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THE PROTECTED SHORT SALE (OR SYNTHETIC PUT)
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Purchasing a call at the same time that one is short the underlying stock is a means
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of limiting the risk of the short sale to a fixed amount. Since the risk is theoretically
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unlimited in a short sale, many investors are reluctant to use the strategy. Even for
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those investors who do sell stock short, it can be rather upsetting if the stock rises in
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price. One may be forced into an emotional - and perhaps incorrect - decision to
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cover the short sale in order to relieve the psychological pressure. By owning a call
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at the same time he is short, the investor limits the risk to a fixed and generally small
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amount.
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Example: An investor sells XYZ short at 40 and simultaneously purchases an XYZ
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July 40 call for 3 points. If XYZ falls in price, the short seller will make his profit on
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the short sale, less the 3 points paid for the call, which will expire worthless. Thus, by
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buying the call for protection, a small amount of profit potential is sacrificed.
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However, the advantage of owning the call is demonstrated when the results are
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examined for a stock rise. IfXYZ should rise to any price above 40 by July expiration,
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