Assignment Risks of Writing ITM options

[ondafringe]

Ok,school is in session..

Pure risk reward..

Short put,vs getting assigned early and long stock.Ignore div and carry.

2 scenarios

Stock trading at 43,short 10 day 50 put trading at parity.Lets say you are lucky and a 60 bid for the company comes out. Would you rather be short the put or long stock??

Flip side of the equation.Horrible
News comes out.Stock goes to 10 cents.Would you rather be long stock or short put trading at parity??

Now run each scenario from the perspective of the put owner..What do they gain by exercing early?? What do they give up??

Embedded calls..

What's a synthetic long put???

More to come

I think I'm getting confused about parity, but let me give it another shot.

If I'm short a 10DTE 50 put that is at parity with the stock trading at 43, I'm thinking the short put must have sold for $7, so $700. However, with 10DTE, I don't see how we could be at parity (no extrinsic left). Applying your example to current NFLX, theta is still 23 and delta is only 66. Unless parity means (or also means) when the price gain on the long put side is >= to the premium paid.

From the put seller's perspective:

If the stock went 60 bid, I'd rather be long stock at 50 for the extra $300 gain over what would have been $700 of collected premium for the put.

On the flip side, I'd rather be short the put to reduce my loss by the $700 of collected premium.

From the put buyer's perspective:

If they took delivery at 43, they would break even. If the stock went to 60, they would lose their premium. So no point in exercising early.

If the stock tanked from 43 to 0.10, and since 43 is parity, exercising early would create a gain of almost 43 points over and above the premium paid.

 

[taowave]

Im at the beach,so I'll bex quick.The example I gave is not realistic,you are correct.Implied would have to be super low.

Parity means trading at intrinsic.No premium.

I'll folllow up

I think I'm getting confused about parity, but let me give it another shot.

If I'm short a 10DTE 50 put that is at parity with the stock trading at 43, I'm thinking the short put must have sold for $7, so $700. However, with 10DTE, I don't see how we could be at parity (no extrinsic left). Applying your example to current NFLX, theta is still 23 and delta is only 66. Unless parity means (or also means) when the price gain on the long put side is >= to the premium paid.

From the put seller's perspective:

If the stock went 60 bid, I'd rather be long stock at 50 for the extra $300 gain over what would have been $700 of collected premium for the put.

On the flip side, I'd rather be short the put to reduce my loss by the $700 of collected premium.

From the put buyer's perspective:

If they took delivery at 43, they would break even. If the stock went to 60, they would lose their premium. So no point in exercising early.

If the stock tanked from 43 to 0.10, and since 43 is parity, exercising early would create a gain of almost 43 points over and above the premium paid.

 

[ondafringe]

Im at the beach,so I'll bex quick.The example I gave is not realistic,you are correct.Implied would have to be super low.

Parity means trading at intrinsic.No premium.

I'll folllow up

.
Take your time. No hurry. Thanks for showing an interest.

 

[earth_imperator]

@taowave et al, can you confirm this definition (and examples) of "Trading at parity" ? :

"Trading at parity" means:

  for a LongCall:  when Premium >= max(0, Spot - Strike).
     Example:
       Strike = 100 Spot = 110 --> IntrinsicValue = max(0, 110 - 100) = 10.
       If current Premium >= IntrinsicValue then the option "trades at parity".

  for a LongPut:   when Premium >= max(0, Strike - Spot).
     Example:
       Strike = 100 Spot = 90  --> IntrinsicValue = max(0, 100 -  90) = 10.
       If current Premium >= IntrinsicValue then the option "trades at parity".

 

[earth_imperator]

"Trading at parity" for a LongCall means: when Premium >= max(0, Spot - Strike)
"Trading at parity" for a LongPut means: when Premium >= max(0, Strike - Spot)

Is the ">=" in both cases correct?
Or should it rather be "<=" in one of the cases? Which case?

 

[ondafringe]

"Trading at parity" for a LongCall means: when Premium >= max(0, Spot - Strike)
"Trading at parity" for a LongPut means: when Premium >= max(0, Strike - Spot)

Is the ">=" in both cases correct?
Or should it rather be "<=" in one of the cases? Which case?

I think it's just the opposite -- both should be <= to be at parity.

This is my *new* understanding of parity (subject to change lol):

Intrinsic = spot - strike (for calls) or strike - spot (for puts).

If the premium is greater than intrinsic, then the difference represents extrinsic, so no parity.

If a buyer paid $7 and the intrinsic is 6, then extrinsic is 1, which means there is still time value left = no parity. But if the buyer paid 7 and the intrinsic was >= 7, then no extrinsic (or extrinsic has been overcome) = trading at parity.

In trying to figure our tao's example, I looked at what NFLX (226.78 spot) 8-19 (10DTE) ATM Puts were selling for, which, if you paid the Ask, was 6.50 for the 225 strike (I used that as an estimate for what the 232.50 strike would have cost when it was ATM). Then I took note of the 25 Theta of the 232.50 strike, which would now be 5.72 points ITM (the theta I provided in my earlier example is wrong, was looking at the wrong strike).

So the 6.50 premium minus the intrinsic of 5.72 points (232.50 strike - spot), showed there was still 0.78 of extrinsic left w/10DTE, so couldn't be trading at parity.

Now this part I'm not certain about:

Current NFLX IV is 42.5 vs. HV of 67.5. So had the IV been higher than HV, enough to jack the premium up to $7.28, would that be parity since the extra 0.78 of premium would offset the 0.78 of extrinsic left? My guess is, yes, I think it would indicate parity.

 

[donnap]

Should be "="

Parity is a number. It is the ITM amount. It is the intrinsic amount.

It doesn't matter where the option is trading; parity is parity.

"Trading at parity" may be used to describe a situation where the option has no extrinsic value, but there are not necessarily any trades exactly at parity.

European style options may trade below parity. Theoretically, at least, American style options should not trade below parity.

This is because American style may be exercised any time. Any ITM option is exercised at parity.

 

[ondafringe]

Should be "="

Parity is a number. It is the ITM amount. It is the intrinsic amount.

It doesn't matter where the option is trading; parity is parity.

"Trading at parity" may be used to describe a situation where the option has no extrinsic value, but there are not necessarily any trades exactly at parity.

European style options may trade below parity. Theoretically, at least, American style options should not trade below parity.

This is because American style may be exercised any time. Any ITM option is exercised at parity.

So you're saying that when the premium equals intrinsic, that is where parity occurs and nowhere else? So intrinsic that is either greater than or less than the premium is simply above or below parity?

So if you bought a $5 call and the spot was 6 pts above the strike, you would have 6 pts of intrinsic, but instead of being at parity, you would be trading 1 point above parity?

If so, and since parity means equal, that does make sense.