Jared at CondorOptions just posted a review of The Rookie's Guide to Options.
If you have been considering reading this book, please take a look at this detailed review.
Would you explain how put and call prices can be so out of balance. RUT closed today at about 450. The Sep 450 put bid is 65.1 and the Sep 450 call asked is 41.2. A synthetic long position in the underlying consists of selling a put and buying a call. Why doesn’t one do that along with going short the underlying (or a proxy for it)? Won’t that guarantee a profit of 65.1 – 41.2 = 13.9 when the options expire in September? (And that assumes the position is opened by buying at the asked and selling at the bid.)
(23.9, not 13.9)
The primary reason is that index options trade after the market closes. Futures were lower after the close, although I have no idea how much lower RUT futures were.
Thus, the options are telling you that RUT may have been 450 at the close, but the predicted opening price was lower.
In addition, the markets are closed and the only proxy is the RUT (don’t know the symbol) futures. I’m completely unfamiliar with trading futures, but there’s a margin requirement that uses some cash. Interest (it’s little these days) that must be paid to carry the position, and that must be considered.
I also (guessing here) that something else must be in play. Best reason: a bunch of stocks in the index cannot be borrowed and sold short. Thus, a true hedge is not available. Whenever that happens (take a look at Citibank), the puts appear to be priced far too high, and this arb (it’s called a reverse conversion, or reversal) looks like free money. But because stock cannot be sold short, the options can get out of line.
I hate to admit this, but I am not 100% confident this is a compete answer. There may be something else I’m forgetting.
OK, but … . I generally don’t trade during the day, but I just looked at
RUT. It is about 445. The Sep 450 puts are bid at about 58 and the Sep 450
calls are asked at about 51, still a 7 point difference at the bid/asked
extremes. I’ve never traded the futures, but presumably one can go long or
short without having to worry about borrowing stock.The margin carrying cost
can’t really account for such a large difference. Besides the position is
fully hedged. That should reduce the margin requirements.
The corresponding Apr numbers are 18.8 and 14.8, a 4 point difference at the
bid/asked prices for a few weeks. It does seem like free money.
While I have to agree that it looks like free money, I know that there are very sophisticated arbitrageurs out there and if an arb opportunity were available, they would seize it.
I thus assume there is none. Perhaps the futures trade UNDER PARITY because there is no way to hedge the futures (except with options) when a bunch of stocks cannot be borrowed and thus, cannot be sold short.
I truly don’t know the answer. But inability to borrow shares that represent a significant portion of the index is my guess as to the reason why the values are as they are.
If anyone else has more information, please jump in here.
Subscribe in a reader
Follow me on twitter
© 2022 Options for Rookies. All Rights Reserved.
Powered by WordPress. Designed by