Reverse Collars

Quote from exQQQQseme:

Interest Calculation on Shorted Stocks:

8 Ball and Others, I had promised an explanation of how the margin interest is charged when stocks are shorted. Actually, AAPL's $6 rise yesterday made this explanation quite simple. Look at my posting immediately prior to this one (page 15), where I use AAPL. It is a perfect example.

Assume the broker charges 8.5% annual interest. The interest is charged on a daily basis and is collected monthly. Thus, the $1,000 margin debt in that example is subject to a margin interest charge for the day. The computation would thus be:

$1,000 x .085 / 360 = 24 cents for the day.

On this point I speak from actual experience. This is not theoretical conjecture. Also, what is interesting is that if by chance one also had shorted puts in their account, the premium received would have been part of the $5,000 starting balance, but the short value of the put would NOT be part of the $1,000 margin debt amount. This is a nice, but small, added benefit which surprised me a few years ago when I first became aware of this.
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I am skeptical of your explanation of short stock interest. Although I don't use margin so I could be wrong.

Can anyone else confirm 4Q's explanations?

P.S. My understanding is that if you fall below margin requirements you must deposit more cash or liquidate. I never heard that the broker simply charges interest on your shortfall.
 
Don, regarding your last paragraph, let me provide further explanation.

1. You are correct in the first sentence. In my case, I have a significant balance in mutual funds, hence there is no concern about a margin call.

2. Regarding your second sentence, I appreciate your skepticism on the interest charge. I wish you were right and I were wrong. Unfortunately, as I indicated, except for the actual numbers, that I am describing here actually happened to me within the last 24 hours. Also, for the record, my broker is Schwab. But they all have the same rules. Over time I have had many discussions with their margin people, who have been super helpful. As I say, UNFORTUNATELY, I do have a handle on this.

I have been a practicing CPA for over 40 years. I assure you that during that time I have seen a lot of brokers' statements showing a lot of interest expense charges. Even when one purchases securities on margin, which is a more frequent situation that the short stock scenario I am describing, the amount of margin advance for the purchase is called "margin debt", and that is also subject to the same interest charge. In a regular margin purchase, the cash is all going out. In a short stock situation, the cash is coming in. If you analyze and think about everything I have said in these last few postings on the subject of margin interest, I think you will see the financial logic.

If I might sum it up...if the broker lends you money and the money doesn't stay in the account, or the market movement increases the short liability, you have to pay interest. Sorry for the rather crude summary, but I hope it helps clarify.

As always thanks for your posting.

Bob
 
Quote from exQQQQseme:

Don, regarding your last paragraph, let me provide further explanation.

1. You are correct in the first sentence. In my case, I have a significant balance in mutual funds, hence there is no concern about a margin call.

2. Regarding your second sentence, I appreciate your skepticism on the interest charge. I wish you were right and I were wrong. Unfortunately, as I indicated, except for the actual numbers, that I am describing here actually happened to me within the last 24 hours. Also, for the record, my broker is Schwab. But they all have the same rules. Over time I have had many discussions with their margin people, who have been super helpful. As I say, UNFORTUNATELY, I do have a handle on this.

I have been a practicing CPA for over 40 years. I assure you that during that time I have seen a lot of brokers' statements showing a lot of interest expense charges. Even when one purchases securities on margin, which is a more frequent situation that the short stock scenario I am describing, the amount of margin advance for the purchase is called "margin debt", and that is also subject to the same interest charge. In a regular margin purchase, the cash is all going out. In a short stock situation, the cash is coming in. If you analyze and think about everything I have said in these last few postings on the subject of margin interest, I think you will see the financial logic.

If I might sum it up...if the broker lends you money and the money doesn't stay in the account, or the market movement increases the short liability, you have to pay interest. Sorry for the rather crude summary, but I hope it helps clarify.

As always thanks for your posting.

Bob
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After thinking about it I am beginning to see it your way. That is, if you don't have the cash in your account to cover the short stock value you will pay interest on the uncovered portion.

The reason this makes sense is that you don't get interest on the short stock proceeds instead my guess is that the stock loaner gets that interest (or the broker pockets it).

So if you spend some of the short proceeds then the applicable interest is not available and can't be given to the stock loaner so you must make it up.

Anyway that's my theory.

Don
 
Hi Don. Actually I don't know who the hell ends up with the interest that is paid. These past two days with AAPL have been a clinic for me on this subject. When the stock shot up beginning at noon on Tuesday, my Calls increased in value, and my short $85 Puts were likewise profitable. But, of course the short stock got killed. I did take a hit to to the tune of about $900, due principally to my calendarized configuration. But, this posting is about the interest.

Today, I Bought to Close the Short Puts. I contemplated Writing the $95 Puts, but for whatever reason decided not to do it at this time. If I had, I would have received maybe $4,000 in cash. At the end of the day, because of AAPL's continued rise, my negative stock value exceeds my Cash balance by approximately $4,500. Thus, tomorrow morning when I look at my account I will see that I will have been charged approximately $1.25 in interest. Had I Sold to Open the $95 puts and received the $4,000, my overnight interest charge would have been based on the net $500, not the $4,500.

So that's the way it works. I don't know who gets that interest. For sure it's not you or me.

Enjoy the rest of the week.

Bob
 
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Quote from exQQQQseme:

Spin or Don:

Where is the carrying cost (other than the margin interest charge where
applicable) when the stock is shorted?

Bob
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There's no carry cost for this situation. In fact, you should be receiving the interest. But as Don noted, since most brokers pay little or no interest on the proceeds from short stock, the reverse collar will underperform the synthetic call (or put) vertical by this amount.

As a general statement, for a collar (long or reverse) or any other option position, if the underlying makes a strong move against you, adjustments will not make the position profitable. They will just diminish the pain.

The only way that the option adjustments will be profitable will be if you add more risk (overwrite the short leg, buy more long legs, or roll). Eventually you will need to hit on one of these or have the underlying reverse. At some point in time, the stock will have to cooperate in order to make up the inherent risk within the hedged boundaries.

Spin
 
Spin, why is it that you and a few others keep trying to argue with me and convince me that synthetics are better than collars? I have said more than once that I can't argue with you guys because I don't know that much about the synthetics. Matter of fact, as I get into it further I am understanding where you are coming from.

So, stop attempting to argue with someone who does not disagree with you.

Bob
 
Bob,

Why is it that you have such an attitude about someone responding to a direct question of YOURS?

YOU asked the question. YOUR question was answered.
If my response was incorrect, correct it. If not, chill.
 
Spin, you're right. You did answer the question when I asked where the cost to carry was? Your answer, and one I completely agree with, was "There's no carry cost for this situation."

Thank you.

The rest of the response dealt with the merits of the trade. It was beyond the scope of my question. I apologize if my response was offensive. It's just that so many of the responses to my postings are attempting to put me in a position of defending the reverse collar over some alternative.

Truth is that I am chilled. I have had success with it, and I am sharing because I was asked to do so. As far as my views of the alternatives, as Rhet Butler said to Scarlet O'Hara in that famous last line in Gone With The Wind, "Frankly my dear, I don't give a damn." By the way, interesting tidbit regarding that line. The script called for the words, "Frankly my dear, I don't really care." In one of the takes, Clark Gable took it upon himself to insert the now famous line. David Selznick liked it and decided to go with it. He was fined $5,000 for the choice of words.
 
Here's a cute little follow up on the AAPL Combo I currently have, which is:

a) Short 800 shares
b) Long 8 July $95C

The net negative deltas are approximately 325.

Several choices for me here. This one is cute.

Buy 10 July $120C's. Haven't looked at the chain but it should be pretty cheap. Still there would be net negative deltas remaining.

If the stock goes down, the short stock will profit more than the $120C's will loose.

If the stock goes up, it is POSSIBLE that I could sell 20 July 110C's and purchase 10 July 100C's, for a net credit equal to the cost of the $120C's. Thus, I would have a risk free Butterfly, which might be very profitable to the upside.

There are a bunch of alternatives. This is one of them. By the way, this is really nice if one could purchase those $120C's in a low IV skew situation.

Bob
 
Quote from exQQQQseme:


a) Short 800 shares
b) Long 8 July $95C

The net negative deltas are approximately 325.

Several choices for me here.

Buy 10 July $120C's. Haven't looked at the chain but it should be pretty cheap. Still there would be net negative deltas remaining.

If the stock goes down, the short stock will profit more than the $120C's will loos
Bob
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Very interesting. You end up with an unbalanced strangle (10 long july 120 calls vs 8 long july 95 puts). Are you playing a delta neutral strategy? If not, then why not consider rolling the long calls down instead, to lock in some profit and keeping the married call intact?
daddy's boy
 
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