38 lines
3.0 KiB
Plaintext
38 lines
3.0 KiB
Plaintext
444 Part IV: Additional Considerations
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could be bought - short stock and long 2 calls. Inversely, a listed straddle could be
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bought against a ratio write - long stock and short 2 calls. The only time the arbi
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trageur should even consider anything like this is when there are more sizable mar
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kets in certain of the puts and calls than there are in others. If this were the case, he
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might be able to take an ordinary box spread, conversion, or reversal and add to it,
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keeping the arbitrage intact by ensuring that he is, in fact, buying and selling equiv
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alent positions.
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THE EFFECTS OF ARBITRAGE
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The arbitrage process serves a useful purpose in the listed options market, because it
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may provide a secondary market where one might not otherwise exist. Normally,
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public interest in an in-the-money option dwindles as the option becomes deeply in
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the-money or when the time remaining until expiration is very short. There would be
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few public buyers of these options. In fact, public selling pressure might increase,
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because the public would rather liquidate in-the-money options held long than exer
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cise them. The few public buyers of such options might be writers who are closing
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out. However, if the writer is covered, especially where call options are concerned,
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he might decide to be assigned rather than close out his option. This means that the
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public seller is creating a rather larger supply that is not offset by a public demand.
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The market created by the arbitrageur, especially in the basic put or call arbitrage,
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essentially creates the demand. Without these arbitrageurs, there could conceivably
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be no buyers at all for those options that are short-lived and in-the-money, after pub
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lic writers have finished closing out their positions.
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Equivalence arbitrage - conversion, reversals, and box spreads - helps to keep
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the relative prices of puts and calls in line with each other and with the underlying
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stock price. This creates a more efficient and rational market for the public to oper
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ate in. The arbitrageur would help eliminate, for example, the case in which a public
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customer buys a call, sees the stock go up, but cannot find anyone to sell his call to
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at higher prices. If the call were too cheap, arbitrageurs would do reversals, which
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involve call purchases, and would therefore provide a market to sell into.
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Questions have been raised as to whether option trading affects stock prices,
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especially at or just before an expiration. If the amount of arbitrage in a certain issue
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becomes very large, it could appear to temporarily affect the price of the stock itself.
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For example, take the call arbitrage. This involves the sale of stock in the market. The
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corresponding stock purchase, via the call exercise, is not executed on the exchange.
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Thus, as far as the stock market is concerned, there may appear to be an inordinate
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amount of selling in the stock. If large numbers of basic call arbitrages are taking
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place, they might thus hold the price of the stock down until the calls expire. |