38 lines
2.8 KiB
Plaintext
38 lines
2.8 KiB
Plaintext
400 Part Ill: Put Option Strategies
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The overriding reason that most strategists sell naked calls is to collect the time
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premium before the stock can rise above the striking price. These strategists gener
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ally have an opinion about the stock's direction, believing that it is perhaps trapped
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in a trading range or even headed lower over the short term. This strategy does not
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lend itself well to using LEAPS, since it would be difficult to project that the stock
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would remain below the strike for so long a period of time.
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Short LEAPS Instead of Short Stock. Another reason that naked calls are
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sold is as a strategy akin to shorting the common stock. In this case, in-the-money
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calls are sold. The advantages are threefold:
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l. The amount of collateral required to sell the call is less than that required to sell
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stock short.
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2. One does not have to borrow an option in order to sell it short, although one must
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borrow common stock in order to sell it short.
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3. An uptick is not required to sell the option, but one is required in order to sell
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stock short.
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For these reasons, one might opt to sell an in-the-money call instead of shorting
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stock.
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The profit potentials of the two strategies are different. The short seller of stock
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has a very large profit potential if the stock declines substantially, while the seller of
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an in-the-money call can collect only the call premium no matter how far the stock
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drops. Moreover, the call's price decline will slow as the stock nears the strike.
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Another way to express this is to say that the delta of the call shrinks from a number
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close to l (which means the call mirrors stock movements closely) to something more
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like 0.50 at the strike (which means that the call is only declining half as quickly as
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the stock).
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Another problem that may occur for the call seller is early assignment, a topic
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that is addressed shortly. One should not attempt this strategy if the underlying stock
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is not borrowable for ordinary short sales. If the underlying stock is not available for
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borrowing, it generally means that extraneous forces are at work; perhaps there is a
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tender offer or exchange offer going on, or some form of convertible arbitrage is tak
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ing place. In any case, if the underlying stock is not borrowable, one should not be
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deluded into thinking that he can sell an in-the-money call instead and have a worry
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free position. In these cases, the call will normally have little or no time premium and
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may be subject to early assignment. If such assignment does occur, the strategist will
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become short the stock and, since it is not borrowable, will have to cover the stock.
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At the least, he will cost himself some commissions by this unprofitable strategy; and
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at worst, he will have to pay a higher price to buy back the stock as well. |