Is leveraging an account with deep ITM calls superior to using cash from your broker?

D

Daal

Lets say you have $100k and are bullish XYZ at $10 (stock has no dividend). You decide to lever up because you really like this opportunity. You could buy $150K worth of stock borrowing the difference from your broker or you could buy long-term deep ITM calls (lets say for $5 strikes). You will put less money down to get in the calls (thus enabling you to get more exposure with the same money) and the calls are likely to be priced at intrinsic value plus cost of carry (which should be close to libor/swap rates), so effectively you are financing a bigger position but without being subject to your brokers policies (I'm assuming the $100K was enough to get $150K worth of exposure in the calls). Why not go with way OTM calls? The return distribution would look completely different from the outright long so that is out of the question
What are some advantages/disvantages of each method?

One nice benefit of the calls is that you lock in an interest rate while your broker might pop that you on at any moment. The interest rate could be lower too as brokers tend to charge more
 
As long as you "KNOW" what the underlying price will be at a specific date in the future, and that will be profitable, then you stand to make a lot of money with the Calls! (OTM will be better if they are ITM enough at your future date.)
So, basically I have provided absolutely no insight!
The word "KNOW" seems beyond my grasp! (and most others I encounter)

On a serious note, I trend traded Sector ETFs a couple years back using 70 Delta ITM Calls (to open, then rolled up and out as necessary), which was very successful/profitable, but DID require the trend to continue adequately. I was mostly lucky. However, my reasoning was similar to yours. You must be correct with your timing and the trend to be successful.
 
stepandfetchit said:
As long as you "KNOW" what the underlying price will be at a specific date in the future, and that will be profitable, then you stand to make a lot of money with the Calls! (OTM will be better if they are ITM enough at your future date.)
So, basically I have provided absolutely no insight!
The word "KNOW" seems beyond my grasp! (and most others I encounter)

On a serious note, I trend traded Sector ETFs a couple years back using 70 Delta ITM Calls (to open, then rolled up and out as necessary), which was very successful/profitable, but DID require the trend to continue adequately. I was mostly lucky. However, my reasoning was similar to yours. You must be correct with your timing and the trend to be successful.
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  • As far as the OP is concerned future price of the underlying is irrelevant.
  • Instead of using margin provided by the broker he wants to buy DITM calls.


:)
 
Daal said:
Lets say you have $100k and are bullish XYZ at $10 (stock has no dividend). You decide to lever up because you really like this opportunity. You could buy $150K worth of stock borrowing the difference from your broker or you could buy long-term deep ITM calls (lets say for $5 strikes). You will put less money down to get in the calls (thus enabling you to get more exposure with the same money) and the calls are likely to be priced at intrinsic value plus cost of carry (which should be close to libor/swap rates), so effectively you are financing a bigger position but without being subject to your brokers policies (I'm assuming the $100K was enough to get $150K worth of exposure in the calls). Why not go with way OTM calls? The return distribution would look completely different from the outright long so that is out of the question
What are some advantages/disvantages of each method?

One nice benefit of the calls is that you lock in an interest rate while your broker might pop that you on at any moment. The interest rate could be lower too as brokers tend to charge more
More...


I can't tell you which is better, but from a margin perspective, DITM calls have to be paid for in full and the stock can be margined at 50%.
 
rmorse said:
I can't tell you which is better, but from a margin perspective, DITM calls have to be paid for in full and the stock can be margined at 50%.
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You are correct, however the $5 calls in the example are likely to be priced at $5 plus interest. So effectively you own a $10 stock but only have to put $5 plus interest down (a little over 50%). The situation seems very similar
 
A stock trading at $10, a DITM CALL $5 strike is not worth it, just buy the stock outright on margin. For higher priced stocks a DITM Call is less risk using LEAPS but only if you are not buying the stock on margin. For most liquid stocks you can buy and hold on margin for quite a long time so no worries there doing it that way.
 
OptionGuru said:
PROS
  • Can't think of any
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And you call yourself a guru of options? How about making 500% instead of 150% in the case of the stock doubling??? Example for the braindead:

SRI at 18.3, the 15 Oct calls are $3.3 or more. If the stock doubles in a very short time, the margined stock position only made 150%, but the 3.3 calls suddenly are worth 21+ bucks, a 500+% return.

To answer the OP's questions, using ITM calls you have to guess the time frame of the price increase correctly. With stocks, you can afford to wait a long time. But with the calls you get much bigger returns...
 
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