HOLLYWOOD STOCK EXCHANGE
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Using options for arbitrage trading: put-call parity
First, my apologies if this post belongs in the Players forum or here--wasn't sure, but since this board is the most active, thought it would be best to place here to get feedback on whether this makes sense.
Bit of background: I'm a long-time player who's been incredibly sporadic over the past ten years or so. I've started playing really actively in the last couple of months again, but one of the things that I've been thinking a lot about is the amount of arbitrage trading that's possible in HSX. This includes a ton of bonds, for example, as well as effectively buying/shorting through CX derivatives. One thing I've always wondered about and never done the math for until today, though, is using the puts/calls to effectively make risk-free money.
Essentially, the methodology involves using put-call parity to figure out when stocks, calls, and puts are collectively under/overpriced. For math purposes, let's let K = the price of the stock as it is today, S = the strike price for the calls on adjust, C = the price of the call, and P = the price of the put. Parity suggests that a call + the strike price = the put price + the stock. We have to translate that for HSX-speak, though, by adjusting the stock to equal the metric you're buying puts and calls for, namely opening weekend gross. So the equation would be C + S = P + K/2.8, assuming the 2.8 multiplier (holiday weekends would be 2.2). Simplifying that a bit more, the rule basically is that C + S - P MUST always equal K/(2.8 or 2.2). If those two things diverge, if you buy the under-priced one and short the over-priced one, you've got riskless profit to be had.
Couple of math notes here. Let's assume you're maxing out the calls and puts. You've got to also then adjust the amount of shares you're buying/shorting of the MST by the delist multiplier (2.8 or 2.2). Also, commissions do play a role here--you've got to manually do the math to figure out whether the spread is worth it. When you've got a large divergence, though, you've got the chance to rack up serious dROI on minimal investment.
(NOTE: THIS ISN'T RECOMMENDING A PARTICULAR BUY/SELL ACTIVITY--IT'S ONLY HIGHLIGHTING HOW THE MATH WORKS). So, if we do this math for this week, safe to say you'd find two things. One of the openers has, through various buying and selling, actually approached put-call parity to the point where the trade isn't worth it at all with commissions. Another opener, though, has all the elements of a fat dROI trade, with a return of about 33% risk-free that can be made over the course of less than a week with zero underlying risk.
Thoughts? Reactions? Would love any feedback on this conceptually.
Using options for arbitrage trading: put-call parity Feb 03, 08:06
Wow! That post just gave me a headache. {nm} Feb 03, 08:18
By the way the multiplyer for a non-holiday weekend 2.7 not 2.8 {nm} Feb 03, 08:19
Ha! Fair point. Is kind of complicated. And thanks for catching my 2.7 error. {nm} Feb 03, 08:30
But how do you know which is over-priced and which is under-priced before the adjust? Because if you miscalculate the OW and Feb 03, 09:04
Look at it as two different baskets of securities Feb 03, 09:28
i guess it makes sense in theory. however one could only play 10k of MST in order to be fully covered. {nm} Feb 03, 09:38
It would be less than that, because you have to divide the 10k by the multiplier to really hedge it out... {nm} Feb 03, 09:43
way too complicated for this game Feb 03, 09:45
It ain't my fault I had too much time on my hands this morning! Feb 03, 10:50
None of that matters. This strategy is bulletproof. The only problem is that you just can {nm} Feb 03, 13:18