My Turn to Rant

hi mark

Hello Jason,

thank you for answering my last question. To add a little more to it, I was wondering why traders are still using options for insider trading?  all of those guys who recently were caught were using options or some sort of strategy to make money off of their insider knowledge.

500 options are far less expensive than 50,000 shares of stock.
Also they are greedy and stupid – maybe 'ignorant' is a better word.

And every takeover since I have been investing has been preceded by suspicious option activity. Its not very hard to track down the specific trade and parties, so why bother using options.

Possibly because they believe the SEC is inept.

Its like they want to be caught.

Yes, it is.

And I dont know how market makers like peak6, goldman, Interactive brokers, and etc lose money on those insider trades.

They lose money when they sell options and are unaware of the takeover.

I was talking to friends and traders. all of those market makers have lists of potential takeover targets,deals, court cases, and have them on watch lists. And when suspicious trades appear on them, they are supposed to over hedge those positions.

Over hedging sounds good. Just how are they supposed to go about doing that? Buy stock and get killed if the stock collapses when the rumor proves false?

If I (as a market maker) sell 2,000 contracts and want to over-hedge, who is going to sell me the options I need? Every other market maker needs options. Hence higher bids and higher offers. That's normal. To expect something different is naive.

Personally I think its greed on some of these market makers.

I am not saying that market makers are the salt of the earth, but they get far too much abuse.

Greedy? Compared with whom? I believe this statement shows you truly have no comprehension of how this works. And if that's true and you are looking for information, why do you begin with the idea that the MMs are the bad guys?  When seeking information why not be attitude neutral? And if you TRULY believe the market makers you mentioned lose money, how can they be greedy at the same time?
 

For example in 07 macys was rumored to be taken over. Some trader would buy a simple 1k block of macys options, for 5-10 cents, and 2 hours later the premium jumps to 2 dollars.

How can you blame the market makers? When they sell 1000 at a dime, why can't the next offer be 20 cents? Then when they sell more, why can't the offer be 30 cents?

Would you stand there and sell and sell and sell – when there are nothing but buyers? I doubt it.

The whole point of raising the bids as buyers continue to buy is to find an equilibrium point that attracts some sellers so the MMs can get some help with the selling. But when no sellers appear, the price keeps rising, as it must.

Do you understand that when there are no other sellers, then the market makers take ALL the risk?   When they earn a profit because the option prices collapse after the news, you say they are greedy and charged too much for the options.   What do you say when Amazon runs up by 25% or GOOG runs higher by 90 points, or when there is a takeover and the market makers get creamed?  Do you still call them greedy?  I wonder if you chortle at their expense.

What really irritates me about your question, and frankly your attitude towards option market makers, is that no one ever complains when the stock specialists continue to raise prices. Everyone loves a good bull market, and rising prices are considered to be good news by everyone.  So why can stock specialists raise prices when demand exceed supply but option market makers aren't supposed to do the same thing?

I remember when President Dubya said that traders were selling stock short 'for their own personal gain.'  Did you, or anyone else, ever hear anyone complain when buyers bid prices higher and higher prices for their own personal gain? NO. You never did and never will.  People love rising markets and think they are good. They hate falling markets and look for someone to blame. It's crap. It's unfair. It's just wrong.

If you believe it's wrong for those options to be trading at $2, why blame the sellers? The total blame is on the buyers who are willing to pay any price, with no thought.  And how about YOUR share of the blame, Jason?  If you had sold 10,000 of these calls, perhaps the price would not have risen above $1.50.  How much of the blame do you accept?

 And those market makers sell thousands of options.

That's the point, isn't it?  The more they sell, the more risk they accept. If you think they should just accept that risk and not try to be compensated for it, then you can do your part. The next time one of these rumored companies has a huge rise in option prices, why don't you go sell five or 10 thousand contracts to help keep the price moderate?

And a day later when no merger happens, the options collapse again, and they make a lot of money.

The prices collapse, instead of falling gradually, because the same buyers become sellers creating an imbalance once again.  This time on the sell side.

Note this usually happens with really near dated options or options nearing expiry.

The public investor buys the near term option because it is less costly and he/she can buy lots of options. With a takeover, it's far better to own near term options. [No need to pay for time premium]

ps I really appreciate you sharing your knowledge and experience on options.

OK. But market makers are human too (some of them at least).

thank you

jason

Regards,
Mark

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One Response to My Turn to Rant

  1. Tyler 11/14/2009 at 9:40 AM #

    Love the Rant! Darn Market Makers get no respect…