Scenario Question

[SCI new york]

Let's say you have a collar on XYZ stock, say trading at 25/share, you have $20 puts and selling $30 calls. Hypothetical; stock gets bought out at $40 before exp. Whats the likelihood you get called away immediately? Do you think the call buyer would exercise? Would it be worth it to buy back the calls for the extra 10 points in the stock? Just a scenario i've been thinking about.
Thanks

 

[Whistlingleaf]

Depends on how much premium is left ... should be noted that partial positions can get called out early - doesn't have to be all or nothing.

On side note - I don't like collars unless you're trying to take advantage of a tax situation by not selling. If you really think you need to own puts on a stock - maybe you shouldn't own the stock.

 

[rmorse]

Quote from SCI new york:

Let's say you have a collar on XYZ stock, say trading at 25/share, you have $20 puts and selling $30 calls. Hypothetical; stock gets bought out at $40 before exp. Whats the likelihood you get called away immediately? Do you think the call buyer would exercise? Would it be worth it to buy back the calls for the extra 10 points in the stock? Just a scenario i've been thinking about.
Thanks

If your long the stock, long the 20put and short the 30 call, you don't have to do anything. You've reached max profit on the trade. If your concerned prior to expiration that XYZ will drop, the easiest way to remove risk is to buy the 30put. Otherwise, there is nothing to do. The stock will get called away. The only way you'll get called away early is if there is a dividend, the stock is hard to borrow, or if there is a cash tender offer.

 

[spindr0]

Quote from SCI new york:

Let's say you have a collar on XYZ stock, say trading at 25/share, you have $20 puts and selling $30 calls. Hypothetical; stock gets bought out at $40 before exp. Whats the likelihood you get called away immediately? Do you think the call buyer would exercise?

The likelihood of exercise is fairly high.

Consider the call buyer. Let's say he paid a buck for the call. The takeover is announced. The stock goes to 40 or so. The call is worth $10 It's highly unlikely that he's going to wait around for a better takeover offer or for the deal to fall apart. Nor is he going to wait around for several weeks or months for that profit so he sells the call to book the gain.

What investor is going to buy that call for $10 when barring a better offer or the deal falling apart, there's zero chance for profit? Most likely, the call trades just below parity (negative time premium). So either someone is going to arb the position for the negative TP or the MM is going to buy it. Either way, it gets exercised.


Would it be worth it to buy back the calls for the extra 10 points in the stock?

What extra 10 pts in the stock? You'll pay 10 pts for the call. That's a wash.

 

[spindr0]

Quote from rmorse:

If your long the stock, long the 20put and short the 30 call, you don't have to do anything. You've reached max profit on the trade. If your concerned prior to expiration that XYZ will drop, the easiest way to remove risk is to buy the 30put. Otherwise, there is nothing to do. The stock will get called away. The only way you'll get called away early is if there is a dividend, the stock is hard to borrow, or if there is a cash tender offer.

The 35 puts should be close to worthless (5 ct asked). The 40 puts may trade for not much more than that. So buy the highest strike put that costs hardly anything and if the deal cracks, you hit the mini lottery.