IB EFP. what IB doesn't tell you about.

[kashirin]

Maybe someone from IB or other participants can explain what happened but for it doesn't look good now

IB advertises their EFP program as a way to earn some additional interest for your spare cash

I decided to put my spare cash by selling EFPs as IB advices
I chose 3 stocks GOOG, SNDK, and RIMM

I put around 150K. After I sold those EFPs my balance was less than 1K

All 3 stocks soared and after some time my balance went down to -10K (I haven't traded at all)
I don't really know why but probably this is how SSFs work

So by some way I'm paying interest for those 10K.

So selling EFP involves some risk and it can be significant if stock doubles or triples - and IB never mentiones it.

 

[thrunner]

Quote from kashirin:
IB advertises their EFP program as a way to earn some additional interest for your spare cash

I decided to put my spare cash by selling EFPs as IB advices
I chose 3 stocks GOOG, SNDK, and RIMM

Exchange for Physical : http://www.interactivebrokers.com/en/trading/pdfhighlights/PDF-ExchPhysical.php?ib_entity=llc Were you basically shorting these stocks with your spare cash without having an underlying long equity position? I am not sure if IB ever "advices" such a strategy, but given that they are market makers in these derivatives and generally make money off these plays, they would certainly welcome more trades such as these.

 

[rayl]

Quote from kashirin:

Maybe someone from IB or other participants can explain what happened but for it doesn't look good now

IB advertises their EFP program as a way to earn some additional interest for your spare cash

I decided to put my spare cash by selling EFPs as IB advices
I chose 3 stocks GOOG, SNDK, and RIMM

I put around 150K. After I sold those EFPs my balance was less than 1K

All 3 stocks soared and after some time my balance went down to -10K (I haven't traded at all)
I don't really know why but probably this is how SSFs work

So by some way I'm paying interest for those 10K.

So selling EFP involves some risk and it can be significant if stock doubles or triples - and IB never mentiones it.

So just to be sure:

You are trading with available cash (not purchasing power, but cash), and this is not a retirement account?

In a regular account, the margin is 5% for long stock / sort SSF (i.e., short EFP) so the stock will have to go up by 20X before you need to post additional margin.

 

[OldTrader]

Quote from rayl:

So just to be sure:

You are trading with available cash (not purchasing power, but cash), and this is not a retirement account?

In a regular account, the margin is 5% for long stock / sort SSF (i.e., short EFP) so the stock will have to go up by 20X before you need to post additional margin.

I think what he's concerned about is the interest he's paying as opposed to a margin call. In fact, if you're using a Universal account I don't see ever getting a margin call since your increase in market value from the stock will offset the loss in the future.

Maybe I'm not understanding your point.

OldTrader

 

[rayl]

Quote from OldTrader:

I think what he's concerned about is the interest he's paying as opposed to a margin call. In fact, if you're using a Universal account I don't see ever getting a margin call since your increase in market value from the stock will offset the loss in the future.

Maybe I'm not understanding your point.

OldTrader

An increase in margin requirements decreases cash, so you can go from having excess cash to borrowing it.

The margin is not 0% even though the position is theoretically fully hedged. (I guess that's to cover pricing disparities -- esp in the event of a forced liquidation, the possibility of OCC going bankrupt, etc.?)

Though, none of those stocks have increased 20X so hence I asked the retirement account Q bec there you don't get the 5% margin.

 

[OldTrader]

Quote from rayl:

An increase in margin requirements decreases cash, so you can go from having excess cash to borrowing it.

The margin is not 0% even though the position is theoretically fully hedged. (I guess that's to cover pricing disparities -- esp in the event of a forced liquidation, the possibility of OCC going bankrupt, etc.?)

Though, none of those stocks have increased 20X so hence I asked the retirement account Q bec there you don't get the 5% margin.

The point is that in a margin account ,ie Universal account, the increase in the long stock position will always approximately equal the increase in the short futures position. Therefore, additional cash can be transferred for the purpose of marginning the future. There won't be a margin call at any level...20X, 100X or anything else.

Now, if this position is held in a retirement account or a cash account of some type then perhaps the account is operated differently. The OP though didn't say he had a retirement account. And I don't know how a retirement account would be operated for this type of transaction.

OldTrader

 

[rayl]

Quote from OldTrader:

The point is that in a margin account ,ie Universal account, the increase in the long stock position will always approximately equal the increase in the short futures position. Therefore, additional cash can be transferred for the purpose of marginning the future. There won't be a margin call at any level...20X, 100X or anything else.

Now, if this position is held in a retirement account or a cash account of some type then perhaps the account is operated differently. The OP though didn't say he had a retirement account. And I don't know how a retirement account would be operated for this type of transaction.

OldTrader

Maybe I am missing something. The SSF is marked to market but the stock leg is not?

In any case, a 20X move in <= 6 months is less likely than Oct 1987 for a large cap stock....

 

[OldTrader]

Quote from rayl:

Maybe I am missing something. The SSF is marked to market but the stock leg is not?

In any case, a 20X move in <= 6 months is less likely than Oct 1987 for a large cap stock....

As the stock rises it creates borrowing power to borrow funds to transfer to the futures account. Frankly the only reason you would need to do this is because the clearing corporation for the futures is separate from stock transaction. That's what creates the change in cash in the account. However, there will always be as much borrowing power as necessary to fund the SSF because they will appreciate nearly identical. The only distinction is that your cash requirement changes.

Rockford has done some analysis on how appreciation affects the interest, if you want to look that up. Turns out though that it doesn't have the impact that you think it will.

OldTrader

 

[rayl]

Quote from OldTrader:

As the stock rises it creates borrowing power to borrow funds to transfer to the futures account. Frankly the only reason you would need to do this is because the clearing corporation for the futures is separate from stock transaction. That's what creates the change in cash in the account. However, there will always be as much borrowing power as necessary to fund the SSF because they will appreciate nearly identical. The only distinction is that your cash requirement changes.

Rockford has done some analysis on how appreciation affects the interest, if you want to look that up. Turns out though that it doesn't have the impact that you think it will.

OldTrader

Funny thing -- I thought it was jimrockford who told us of the risk of possibly needing more margin! At least that's what clued me in on it.

If the stock rises, it creates more borrowing power, but it does not create credit balances to cash. At least that was my thinking. The SSF is marked to market so it creates debit balances to cash.

I will queue this up as a topic to review over the wkend. Meanwhile, my toe dip into EFPs has been small so far to get the hang of things.

 

[jimrockford]

Quote from kashirin:

Maybe someone from IB or other participants can explain what happened but for it doesn't look good now

IB advertises their EFP program as a way to earn some additional interest for your spare cash

I decided to put my spare cash by selling EFPs as IB advices
I chose 3 stocks GOOG, SNDK, and RIMM

I put around 150K. After I sold those EFPs my balance was less than 1K

All 3 stocks soared and after some time my balance went down to -10K (I haven't traded at all)
I don't really know why but probably this is how SSFs work

So by some way I'm paying interest for those 10K.

So selling EFP involves some risk and it can be significant if stock doubles or triples - and IB never mentiones it.

Kashirin,

EFPs are not only a way to earn more interest on your cash than any broker will pay, they are also a way to earn more interest on proceeds from short sales than any broker will pay, and to reduce your margin costs on long positions below the lowest margin interest rate that any broker will charge. I talked about all these things in my various posts on the subject, which you can see thru ET's search function. Another topic, which I have not discussed but plan to discuss in the future, is how you can use EFPs to increase your buying power, at the same time you are earning higher EFP interest and/or paying lower EFP interest.

EFPs for earning high interest on cash require relatively inexpensive adjustments, from time to time, in order to keep your cash balance close to zero.

Buy back one of your RIMM EFPs. This will free up about $23K, thus eliminating your negative cash balance of $10K and avoiding your payment of interest to IB. I say choose one RIMM EFP, instead of one of the other symbols you hold, because it is currently paying you the least favorable interest rate among the three EFP symbols in your EFP portfolio. You will then have a positive cash balance of about $13K. Then immediately sell some more EFPs having total stock value of about $13K, so that your cash balance will be as close as possible to zero. Do this so that you will earn EFP interest on that $13K.

It will take 3 business days for your repurchase of the EFP to settle, so that you will continue to pay interest on that negative cash balance of $10K, until settlement day.

If your cash balance again gets sufficiently negative, so that your margin interest payments to IB expected to be made thru EFP expiration become comparable to the amount it would cost to adjust your EFPs, then it is again time to re-adjust your cash balance to zero, by again reducing the value of your EFPs. If your cash balance gets sufficiently positive, because your EFP stocks plummet, so that you are missing out on EFP interest for the amount of your positive cash balance, and this amount of missed interest expected thru EFP expiration becomes comparable to the cost of an adjustment, then it is time to adjust by selling more EFPs.

This process of readjustment is, in some ways, a little bit like the option trader who must, from time to time, adjust his position in order to maintain what is called delta neutrality; although, here we are only trying to maintain a zero cash balance, so what we are doing is really much simpler than what the option trader does.

You can reduce the frequency and cost of your EFP adjustments by the following:

1) Avoid volatile EFP stocks, because they will require you to adjust more frequently.

2) Prefer higher-priced EFP stocks, because they cost less commissions to adjust than do larger numbers of shares of lower-priced stocks.

3) Diversify to as many different EFP stock symbols as you can, because this will reduce the overall volatility of your EFP volatility, thereby reducing the number of adjustments you must perform.

4) Point #2 is more important than Point #3; so first priority, make sure you are using high-priced stocks, and second priority, as long as you are using high-priced stocks, use as many different symbols as possible.

I think you will find that making proper readjustments will almost entirely eliminate the risks about which you complain. I think you will find that the cost of these adjustments will be very small compared to the financial benefits of EFPs.

Please see the following thread for more details, especially in the area of deciding when it is time to do a readjustment: http://elitetrader.com/vb/showthread.php?s=&threadid=91499