Invite ye felawes and frendes desirous in gold to enter the gates of Shrewd'm, for they will thanke ye later.
- Manlobbi
Investment Strategies / Mechanical Investing
No. of Recommendations: 2
I was looking at outs for a company I might not mind shorting, and I found something interesting. Ask prices on these outs that are higher than the strike price.
The stock price is currently 2.24, and here are prices for options expiring in about a year:
Strike price of 5. Bid is $1, ask is $5.20
Another Strike is 7.50. Bid is $3.50, ask is $8.50
If you buy a put, and the stock goes to 0, you gain the strike price, and stock prices cannot go negative, so it makes no sense to buy a put for more than the strike price.
From the standpoint of the seller, the money you earn from selling the put would be enough to cover the put being exercised. So you aren’t out any money waiting for expiration.
If I’m thinking about this right, why is there not always a market-maker type player willing to sell puts at a price matching the strike price? And is there a mechanical investment to be made being the one to offer this?
No. of Recommendations: 5
If you buy a put, and the stock goes to 0, you gain the strike price, and stock prices cannot go negative, so it makes no sense to buy a put for more than the strike price.
The person/bot with $5.20 as the ask is merely being optimistic, which costs them nothing. Maybe there will be someone dumb enough to pay that, and they get free money. It's like saying you have apples for sale for $1 million each. You won't sell many at that price...but you only have to sell one!
At a guess, the gap is unusually wide also because it's a relatively obscure security or time frame, so the contract trades rarely if at all and nobody else sees it worth the bother of offering them for sale at a better price to undercut the first optimist. Such a not-quite-so-greedy person might show up in the split second that a bid appears.
You are buying the right to sell something for $5 in future. Its current market price is $2.24. Clearly that right is worth $2.26 today, even before you consider the time value. So if I wanted to buy it, I'd put in a limit order at a price just a hair above $2.24, and inch it upwards till it fills. That's pretty much how I trade all my option contracts, and I've done tens of thousands of them. It would likely fill as soon as the rate of return on the time value is considered to be within the reasonable income expectation range of the market maker. It will almost certainly fill long before your bid gets up to $5.20. (sooner if it's a reasonably large or liquid stock, maybe painfully higher if it trades by appointment)
Jim
No. of Recommendations: 3
It's a terrible company I don't want to own, I was looking to short it. But I'll agree to sell someone the right to buy their stock at $5 if they'll give me the $5 to use. We'll see how it ends up. If lots of people want to short it maybe some won't understand how it works.
What surprised me though is Vanguard keeps the cash to secure the put unusable for other purposes until the order goes thru. I still keep my money market earnings on the balance, but it doesn't recognize that the price I would get would cover the exercise requirements.
No. of Recommendations: 6
The stock price is currently 2.24, and here are prices for options expiring in about a year:
Strike price of 5. Bid is $1, ask is $5.20
Another Strike is 7.50. Bid is $3.50, ask is $8.50
That kind of wide open bid/ask spread is meaningless. It's basically the market maker saying I'm closed for business, unless you're a sucker. If you make a reasonable offer inside the spread, the market maker will take it.
Elan
