Synthetic Stocks: "Free" Stock Ownership? Yeah, But...No | Trading a Smaller Account

Synthetic Stocks:

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[Music] good morning and welcome everyone my name is cameron may it's 9 30 eastern standard time on a friday morning the opening bell has just sounded that means that it's time to get back to the ongoing series of weekly discussions called trading a smaller account i'm stepping in for barb armstrong she's taking the day off she'll be back again next friday but boy i'm looking forward to this discussion we're going to be reviewing a strategy that's sometimes employed when an investor spots a stock that they might have an interest in but maybe they don't want to commit the full amount of the purchase of the shares of that stock we're going to be talking about something known as a synthetic stock position i'd be very interested to hear from those already in attendance if they're familiar with that so if you want to chat in yes or no that would be fabulous but we'll set a more precise agenda for that discussion in just a moment before i do that though let me say hello to everybody it's already chatted in i can't well i can't say hello to everybody i'm going to call out a few just right at the top who are here first but of course the rest of you are certainly welcome hello there vj mansour david deborah jules chuck e 68 spin drift deborah tmtn todd doug michael on and on that list goes denise marcy um juanita yeah huge list thanks everybody for joining us week after week we definitely appreciate your ongoing attendance and your contributions to these discussions i think it really helps with everyone's personal learning curve of course if you're here for the very first time and i have seen some of you was that doug saying it's the first time welcome to those of you who are here brand new um if you'd like to chat in let me know that that this is your first time i do like to always uh know who my my new audience members are and if you're watching on the youtube archive after the presentation that's fantastic enjoy the show but also be aware that you are invited to join us during the live stream it does kick off opening bell friday mornings typically delivered by barb armstrong but this one runs about 40 to 45 minutes that's about what you want to budget in your personal calendar and finally my very good my very good friend ken rose is here he's going to be hanging out in the chats he's going to be answering any questions that i can't get to and ken really does bring a wealth of knowledge to this i started my career as an investment coach uh boy this is my 18th year and ken was there same company on day one so we've been working together for a long long time now okay all right so let's get to it very first thing that i want to do is give you an invitation if you're not following ken and me on twitter please do ken's twitter handles k pardon me at k rose underscore tda rose just like the flower mine is at c may just like the month underscore tda and that's really the very best place to have a more personal ongoing daily interaction with your favorite instructors also we need to bear in mind that risk is real the the content we're about to provide is intended for education for informational purposes only options are not suitable for all investors it's a special risk inherent options trading may expose investors potentially rapid and substantial losses all investing involves risks include including the risk of loss short options can be assigned at any time up to expiration regardless of the in the money amount and uh past performance of any security of strategies not guarantee future results or success and finally a stop loss order will not guarantee an execution at or near the activation price all right so let's set an agenda for the day i already asked um who's here who here is familiar with this strategy known as a synthetic stock and i see a lot of you saying yep yes yes i see plenty of you saying no not familiar with it well we want to make sure that everybody's comfortable with the strategy that we're discussing so i'm going to introduce this concept known as a synthetic stock and we're going to we're going to spend some time getting familiar with it so that everybody can follow then we're going to weigh the pros and the cons of this strategy using an example position and then finally we're even going to place a trade so that we can see uh how the buttons are pushed to get this going in paper money and even how we might plan and exit on that position so a bit of a tall order but i think we can do it let's get into it i'm going to switch this over to thinkorswim and morgan stanley is going to stand in as our example position for the day all right so we're right in the thick of earnings season as many of you know and boy morgan stanley just like so many others has had a rough run right up to this earnings announcement you can see lower highs and lower lows but for those of you who use technical analysis what is something that may be significant that might be showing some signs of life in the stock behavior of morgan stanley what do you think look at that chart give it a quick look here's what caught my eye it's not a guarantee of performance of course but we've been selling off lower highs and lower lows sold off to yet another lower low here in mid-june rallied up toward the end of the june toward the end of june and hit a peak here and then as we sold off again moving into july we had a very similar low right those are no longer it's no longer a combination of lower highs and lower lows now we have lower highs but we have equal or similar lows now since then we've rallied maybe on the strength provided with the momentum provided by that most recent earnings announcement spiked up beyond these highs in late june so now what's the technical scenario higher highs equal lows is that bullish or bearish that's actually now tilted a little bit bullish this might be be what we consider to be a confirmed double bottom also known as a w pattern right let me draw that in for you just so you can see that see we sold off to a low rallied up to a peak sold off to a similar low and rallied up beyond that peak so this is what's known as a w pattern it is it is typically seen as a reversal pattern by by pattern users on charts and you can see that we've now pushed beyond that okay so let's suppose that it's the trader's conviction that the stock is set for a nice run in price and they might even think boy maybe this is the beginning of something good and this could go on for months so what could they do well they could just go buy the stock now at eighty three dollars per share that would be about an eighty three hundred dollar commitment for some portfolios especially the smaller accounts that we deal with in this discussion that might be a bit of a stretch to the budget right so maybe they think well is there some way i can enter this position for a lower net cost well maybe we do a margin purchase right this is a this in our paper money portfolio here we do have a margin account so if we were to go place our trade within this portfolio it's actually not going to require that we tie up 8 300 bucks we could actually displace our purchase submit our order and i'm not going to this is just for example purposes let's say you know same 100 shares but we're doing it in a margin account well this is going to require 4 100 bucks in what we call buying power what we're doing here is we're using the available equity in the portfolio as leverage basically to borrow some money to combine with our own cash to to finance the purchase of the of the trade it's still a forty one hundred dollar trade though is there some way we might lower that net cost again and maybe we don't wanna borrow money anyway okay so what's left to an investor well what they might do as again an alt an alternative to buying the shares of stock maybe we buy a call option when you first learned about call options um you probably learned that when you buy a call option you have the right to buy shares so instead of buying the shares we're buying the right to buy the shares quite similar not the same right different in many significant ways so let's say that we think the stock is going to go up for a long period months so we want to make sure that if we do choose to buy a call we don't want it to run out you know in 28 days or 56 days that's not going to accomplish our objectives so let's go on out to how about we push it out here to the 15th of september of next year that's well that's a full year and some change there 420 days to buy this option now for some of you i know that some of you going to be new to options trading i have 184 people watching the live stream right now they're going to be probably thousands that watch this after the fact we've got to make sure that everybody knows what i'm up to here so let me build an example trade and i'm just going to explain this as we go so here's our example trade and this is known as a synthetic stock position now what is what does synthetic mean when you when you hear the phrase synthetic well that might mean artificial right it's it's a it's a proxy for or it's it's it's it's um it's a recreation of something right that's what we're trying to do here yeah miguel says that is a leaps contract denning is a saying is this a leaps contract yeah and we but we use this acronym leaps it's a bit of a mouthful for those that are new to options trading it's not really essential to understand this this acronym but l-e-a-p-s is the acronym okay and so we say we call it leaps and it just stands for here here comes long-term equity anticipation security okay there's leaps long-term equity anticipation security what does that really mean it's it that's that's a fancy way to say it's a long-term option is there anything special about leaps options versus shorter term options well yeah they have more time on them that's it otherwise they function just like a normal option because they are a normal option that for some reason somebody decided wasn't me decided to apply a label to it because it's still more than a year whatever okay so yeah interesting to know that all we need to know is that we are getting into potentially a contract for those that are new to options what we're going to do is instead of buying the stock we're getting into a contract with someone else where we want the right to buy the stock for in this case 420 days so this is going to be a contract that runs all the way through the 15th of september of 2023 that's how we read this on our trade page 420 day 420 just tells us how many days there are on the contract and the 100 tells us this is a standard contract standard contract means it's giving us the right to buy a hundred shares of in this case it is a hundred shares of morgan stanley stock and with the stock trading around 83 bucks how about if we lock in a price around 83 you can see right here there's this column that says strike these these are the prices at which we can strike a deal with another investor to enter into a contract to buy shares of stock from them for whatever price it is we strike we strike a deal out okay so i'm going to use 82 and a half we're going to buy this call contract for the 15th of september 82 and a half dollar call and it looks like that's going to cost us between 11. and 11.25 let's say we can get that for 11 and 10 cents so once again for those that are new here's precisely what would be going on in this in this scenario assuming we're able to get this purchase accomplished all right assuming we can get this order field until it's actually filled it's always an assumption right but we're offering to pay 11.10 per share for the right to buy 100 shares of stock of morgan stanley at 82 and a half dollars and that's good all the way through the 15th of september that's what that does so i remember when i first learned about this i was like man that's that's just about exactly like owning the stock right i don't own the stock but i know that for the next 420 days i have the right to own the stock at 82 and a half dollars well it's similar but quite different in a significant in some significant ways for example if if i enter into this trade and the stock goes up a dollar today do i make a dollar on my call that seems like if i were if i were looking for a truly uh synthetic or a replacement version of stock ownership if the stock goes up a dollar i should make a dollar that's not the way this works how much would we make those of you who are veteran uh traders here or veteran attendees of our webcast would know the answer to this immediately if the stock were to go up a dollar after i spent my money on this position uh how much money would i make stock goes up a dollar we would make 54 cents this column that says d delta delta starts with d so does dollar it's sort of a this this is a this is a metric that allows us to gauge how much we could make if the stock goes up a dollar it also tells us how much we could lose if the stock was down a dollar stock goes up a dollar we make 54 cents it goes down a dollar we lose 54 cents that's not the same as stock ownership it's similar it makes money in the same direction and loses money in the same direction but not as much so let's make a note of that delta if we just buy the buy the call is 54 cents also if we own the stock and a day goes by and the price doesn't move it's pretty much no harm no foul right is that true of our call contract here if we buy the call contract in place of the stock and a day goes by and price doesn't move it is a foul we actually lose money due to what's called the time decay effect on our contract because when we bought the contract we had 420 days to watch the stock move hopefully in our favor if a day goes by there's one fewer day left on that contract and if we wanted to sell that contract on to somebody else it's not as attractive they only get 419 days it's very similar but not exactly the same so no as time goes by it chips away at the value of this investment and specifically if we look at our theta which starts with t and so does time this is estimating for us the impact of the passage of time and we lose a penny per share on 100 shares that's one dollar so our theta here is a negative one right i'm gonna do this with delta let's throw a plus sign in there and get our space after the colon now finally volatility has an impact on the or the value of options let's suppose investors think a stock is going to become more and more volatile in the future but price doesn't change today okay so they think okay maybe next week is going to get more volatile today the price doesn't change so what it doesn't actually impact the the value of our investment that's not true of options positions if investors get a whiff that next week is is likely to get more volatile or the month from now it gets more volatile or the stock is likely to get more volatile that can drive new demand for options and even if price doesn't change on the stock the new demand for the option could actually pump up the value of those options so volatility plays a role in particular buyers of options really like volatility if they're speculators buyers of options for hedgers or for hedges they they can still drive up demand for options when they think there's going to be more volatile volatility in the future because they might be using options as uh as a hedge for existing stock positions in any case that could even be true of sellers just to a limited extent okay so volatility plays a role in the value the changing values of options and that's measured by vega vega starts with v so does volatility and if we look at this column right here or for let's see it was our 82 and a half so it's this column right here or this uh this row this is telling us if volatility were to increase by just one percent anticipated volatility the the impact to our option could be significant it could change by 34 cents if volatility rises by one percent we could see a 34 increase in the value of our 11 investment if volatility were if anticipated volatility were to drop one percent we could see a 34 loss on our 11 investment okay so right now we have a positive vega of 34 cents so what's the bottom line for what i'm describing here call ownership is similar to stock ownership certainly not the same not at all the same right well is there a way to make this trade much more like stock ownership and the answer is yes and that can carry pros and cons we want to talk through that but what we're going to do at the same time we buy this call option for the 82 and a half dollar strike and it looks boy it looks like boy this is this is shifted a bit i'm going to shift our investment amount here looks like that call would only cost us about ten dollars and eighty cents at this point but we're also going to sell a put and right now those puts are between 1080 and 11 25 i'm going to be a little bit generous not well i'm not generous it's actually less generous here let's just say we receive the bid price on this put we're going to sell it for 1080. okay so we're going to stick with the same expiration same contract length so this is going to be selling the 15th of september and again and maybe it might be useful here to note that we're going out to 2023 on these contracts right but we're going to sell the 82 and a half dollar put and boy that was looking like it was trading right around 10 80. looks like we might even be able to get a little bit more than that at the moment but let's talk about what we've just done with the cost of this trade okay we're spending 1080 to buy a call we're receiving 1080 to sell a put what is the net expense of this trade i don't know about your math and mine says it's zero right zero dollars on that trade now we're setting transaction fees aside obviously and there are transaction fees on this trade so um to buy the stock was 8 200 bucks or 80 about 8 300 bucks to to buy it in a margin account was about 4 100 bucks this is now zero well i'm going to put an asterisk next to that because it doesn't mean there's going to be no cash requirement to this trade okay but we actually have if we're buying a call and selling a put constructed something that really does behave essentially exactly like stock ownership okay so let's first of all look at our delta we know that if the stock goes up a dollar we make 54 cents according to the black shells model for calculating changing values of options on our investment right but on this put as we look over here and these are these are going to change a little bit i may even up the update these just very quickly um yeah is about 53 cents that's gonna be about the same and that one's the same okay that's fine but let's look at our put and we we've now sold an option now here's the thing in an interesting thing about these what we call the greeks here when we're selling them um well i let me just phrase it this way these are always displayed as the potential impact to the buyer of those options so if we're the seller of those options we need to reverse this potential impact so for example if we're buying a put yep we'd be looking at stock going up a dollar we'd lose 48 cents that's why it's a minus 48 cents if the stock goes down a dollar we would make 48 cents but we're gonna sell this put so instead of having a negative impact it has a positive impact so um if the stock were to go up a dollar we've sold the put what would that do to our net position between the the call and put well it's going to add 48 cents to our profit potential now if you're doing the math right now you're probably looking at this and saying okay so we're getting 53 cents if the stock goes up we make 53 cents on the call and we make 48 cents on the put that is one dollar and one cent hey that's pretty close to exactly like stock ownership well what's actually happening here very likely is that we're not quite making 50 uh 48 cents this is what i would suspect probably not quite making 48 cents and we're probably not quite making 53 cents the combined of those two is actually going to be right close to a dollar rather than a dollar in one cent there's a little bit of rounding going on here in our greeks okay all right now i know that there's uh what was the i wonder there david you have me you have me wondering again let's go up here ah yeah david says going to be interesting to see what cameron does keep the trade under barber's limit of 500 if memory is serving me okay yeah barb does have a 500 limit i'm not sure tell me does she have a limit of 500 invested or 500 at risk because i will be doing a trade here where we're trying to keep that under a 500 limit for the risk of the trade the investment of the trade is going to exceed that a bit okay i'll show you how that's all calculated you'll see it but what we want to cover right now is just how is it that this happens to behave like a stock bottom line here is that the call in the put stock goes up a dollar we make almost exactly a dollar that is starting to sound like stock ownership but you might think well cameron yeah but time decay is working against this right no time to gaze work time decay is working against the call since we bought it but for the put since we sold it so we have a negative one cent in time decay on the call but what the what is the put doing we bought it apartment we sold it so we reversed this that's a plus one once again i hope your math is the same as mine i'm throwing an approximate here approximately one dollar there we go because it really is about a dollar there's some rounding going on here that's made this look like we're going to get a little bit more than a dollar nope okay lose a penny make a penny that's zero impact from theta what about vega well if volatility rises it helps the it helps the call because we bought it it volatility rises it hurts to put because we sold it and look at that put it's a minus 34. and that is a zero impact so what role is theta playing in this trade over the next 420 days effectively zero what role is vega playing in other words what role is time playing in this trade pretty pretty much zero what role is volatility playing pretty much zero what's really driving the the success or failure of this trade it's just price movement if the stock goes up a dollar we're in position to make a dollar if the stock falls a dollar we're in position to lose a dollar and um el russell says 53 plus 48 48 was the delta what was what is the 53 so l russell 53 is the delta of the call that we bought 48 is the delta of the put that we sold and since we did both we get to count both right so we have 53 delta coming in from the call that we bought and then another positive 48 coming from the put that we sold so these values are the combined values this first column is how the call is likely to behave as the stock goes up and down the second column is how the put is likely to behave as the stock goes up and down so there is our trade so what we've done here is we've constructed a trade apparently for zero dollars that is going to position us to make dollar for dollar profit if morgan stanley goes up as we suspect it might but it's also positioned us to lose dollar for dollar money if morgan stanley goes down so this is what's known as a synthetic stock position and boy it does its job really well and at a reduced net cost now this is not a zero dollar trade let's go ahead i'm going to place this trade i want to make sure that we get that included in today's discussion so here's the way that we would we could place this trade a couple of quick ways to do it one way that i that you'll see me demonstrate placing multi-leg trades is to just hold down the control key and start clicking okay ap 514 says what happens when things change and i think what you're asking is what happens when the delta changes as as price moves up and down don't delta and theta and vega change they do but as much as the one changes the other one changes in the opposite direction and it stays the way it is on day one this remains a dollar for dollar synthetic position no matter how much time has gone by no matter how much volatility changes no matter uh how much the price moves yep so yeah that's a good question but that's your that's the the brief answer so here's the way to place the trade we come over the call we want to buy it so we're going to click hover over the ask price and click on it to create a buy order then we're going to go back up here to the same strike for the same expiration we're going to hold down our control key this is telling us this is telling the system hey i'm about to add a trade to the order that i already have and as i hold down that control key i'm going to click on the bid price you see what that just did it just put it in order to buy 10 calls and sell 10 puts well for today's example let's back off on that we're talking about straight trading a smaller account i'm going to trade a smaller quantity and we're just going to do one of each of these okay and at the moment it's looking like we might even get a bit of a credit wow not only is this a quote-unquote free trade because it's not it seems like we're getting paid to do this trade technically not so much there is definitely risk in this trade i hope you've taken home the fact that we can make money if the stock goes up but we can also lose money if the stock goes down nicole says yeah why teach other methods this seems pretty good can be right um it depends on what the stock does after day one right but let's click confirm and send and let's say that we're willing to accept you know what i might do i might say you know what i don't even care about getting a big credit for this we'd be happy barely breaking even on the entry i'm going to say let's let's accept the 10 cent credit i don't know it's going to change while we're talking anyway but anytime we submit a limit order there's still a risk the order might not fill okay i'm going to click confirm and send but the simple fact is there is risk in this trade so there's going to be a requirement that we have some cash available to cover that risk if it surfaces right so what you might a quick calculation if you're wondering how much is required for this trade typically it's going to be in the in the realm of 25 to 30 percent of the cost of the same number of shares of stock okay it can vary depending on which strike prices you're choosing length of the contract things like that but the the the uh the calculation of the of the what we call the buying power effect or the margin a little bit involved the quickest way to figure out how much is this actually how much margin is this going to require how much do i effectively have to have of my own cash to cover the risk of this trade initially it'll just summarize it for you right there on the trade confirmation screen okay there we go so um remember buying a stock would have been 8 300 bucks using the margin would have been about 4 100 bucks so we reduced the the requirement the the amount that we have tied up in this trade even further now what that has done means that we're spending less money to get the same amount of potential productivity on the stock but also the same amount of risk where we've actually leveraged up this trade so we just have to be comfortable with the fact that this is a pretty highly leveraged trade for better or for worse it's easy to think oh good so i can make money always remember we could also lose money juanita just asked what is the risk of a dividend so wanna wanna if the stock goes basically on ex dividend date then it's a good question okay when a dividend is paid the stock price is adjusted by that amount on that date now typically dividends are sufficiently small enough that it sort of blends in with the rest of trading activity on a date and we pretty much don't even notice most of time right how does that affect the options well price can move up or down options prices can move up or down with it with that price but all we care about with this is well did the stock price move up or down because if it moves up that's good for us if it moves down as a result of a dividend or anything else it's not good for us now on the point of dividends since this is a quote-unquote synthetic stock shareholders get a dividend if a dividend gets paid in their and they're the shareholder of record on record date they get the dividend do we get a dividend from this synthetic position no no for that purpose we'd call it this might be called a pretend socket you don't actually own shares you have the right to own shares but you don't own shares someone can sell you shares but they haven't done that yet okay all right i'm going to go ahead and and submit this trade though there is a transaction fee on this actually let's not submit the trade because i do want to show you how we might plan to exit yeah jm says how do you manage this kind of trading perfect little segue question there perfect okay well this is a synthetic stock position we can make just as much as a stock if the stock goes up we can lose just as much of the stock goes down so treat it like a stock um if let's say our risk tolerance is 500 um for our portfolio right let's say that's the most we we've decided we we want to lose on any position stock options synthetic stock 500 bucks it's mostly we want to lose well this is mimicking the performance of 100 shares of stock so if the stock were to go down five dollars how much have we lost what do you think we're mimicking the performance of a hundred shares of stock on one of these contract pairs stock goes down five dollars we're now down an unrealized 500 bucks if we allow it to go down further 600 700 800 yeah so what we can actually do is put a stop on this trade to get us out if it drops let's say in in this case let's do five dollars okay and that let's let's also look let's go to our charts here we have here we are up here at 82 and a half if we fell five dollars that would take us down to about 77 and a half would you say that our w pattern had failed by then let's let's draw in a line down here at 77 and a half there's where we would get that's where our stop order would be triggered right gi says is open interest not important same level of importance as other options trades okay yeah but if this fell down here our purpose for getting into this trade that looks like that would be fairly decisively invalidated right time to just pull the plug on this for example jm says can we close just one side the losing side jm unfortunately if this stock goes down we're losing on both sides both of these positions are bullish when we buy a call that's a bullish position when we sell a put that's a bullish position yep we can yes the short ans the quick answer is can we close out one side or the other yes however they're both losing money if this is happening both are making money if the stock is going up in most scenarios right if it's going down in most scenarios we're losing money on both sides um if it's going up we're making money on both sides in most scenarios okay there we go so that's what we're gonna do let's let's now place our trade with a stop attached so once we built this order here's one thing that we can do by default down here it's going to be a single order meaning we're telling the system all right this is the only order i'm placing today or replacing at this moment i'm going to change this to a first trigger sequential which means hey once this order fills i want a second or a sequential order to go into effect and that's going to be our stop order so once i've made that change i can right click on the original order and denny says can you also include the target exit you could denning if you if you had one in mind we don't have one in mind for this trade other than we think your stock is likely to go up we could man theoretically just manage our stop along the way but yeah you could set up like an oco order i'm not going to do that today but but theoretically yes all right so i'm going to right click on this order and i'm going to create an opposite order an opposite order gets you out of what you got into right so this would be to sell the call that we bought and buy back the put that we sold but we don't want to do that immediately we want to do that if the stock were to fall let's say from where it is right now down five dollars so that's going to take us right down to at the moment it's going to take us down to about 82 or pardon me about 77.20

okay so i'm going to come over here to this little gear icon to the far right i'm going to click on that and i'll make some adjustments to this closing order the first thing we're going to do is change this to a market order what we're telling the system is hey i want to if the price falls down to 77 ish dollars i want to get out of this get out of this synthetic stock position at the market price for that position at that moment i don't know what it's going to be just get me out now for our symbol our condition here we're going to go down just below the symbol box you'll notice we can just click there and automatically populates with ms morgan stanley we're going to go to method and that changes to mark and i'm going to leave it at mark i'll explain what this means in just a moment and then you'll notice there's a less than or equal to sign for the trigger and then we're just going to put in our threshold of 77. and 20 cents so what we're telling the system here is hey if the stock happens to fall to less than or equal to 7720 if the market value of that stock falls down there we want this to happen we want to sell our this is calling it a combo but it's we know it as a synthetic stock position we want to sell out of that if the price falls down to or below 77.20 and then finally we want to change that time in force on this exit transaction to gtc good till cancelled okay so this would just keep this in effect for the next six months or until until the order fills or if we cancel it but let's uh save that and that creates our closing order transaction all right let's see what's uh what's going on i'm going to unlock this and see where oh yeah it looks like it we might even be able to get a credit of up to 60 cents at this point i'm going to stick with it with a dime right when we originally ran this it looked like it was just going to be essentially a zero dollar cost trade i just have to emphasize once again even if we get a small credit does that mean we have no cash commitment to this trade nope the trade might go south on us and therefore we have to have uh cash reserves in the form of margin buying power to cover that okay so let's click confirm and send buying this combo also known as a synthetic stock position we're going to sell that if morgan stanley falls down to or below 77 20. it looks like it's crept up to about 82 38 at the moment there is a transaction fee on on this trade okay and i'm going to send this order off okay denning is saying why would you want to do that i'm not sure probably part of your the whole chat chain that's going on over there i'm not sure the context of that question by what i don't want to do i'm not sure what but let's send this order off and we're done we actually got a credit of 80 cents the credit is not what's important here what's important here is where the stock goes from day one if the stock goes up what happens oh red solo cup says that max loss has me sweating yeah hey that's stock ownership right that max loss is going to look exactly like the max loss had we just bought the shares outright if we bought the shares for 82 dollars per share and the stock went to zero how much money could we lose 8 200 bucks if we buy a synthetic version of the same shares how much money could we lose if we don't exit as the stock goes down 8 200 bucks obviously that would only occur in both scenarios if morgan stanley were to go out of business or be delisted right if it goes up how much money can we make there's no limit on that as high as this goes dollar for dollar we're making money on that now the final thing i wanted to discuss is there is a short option involved in this trade i want to talk about what happens if the contract gets assigned either because we allow it to go all the way to expiration while one or one or both of these contracts are in the money or just if uh if one of these or if the short option gets assigned before expiration well we bought a call and we sold a put let's talk about that because this is what what always kind of spooked me when i was first learning about options what if right they're big questions both contracts that are at 82 and a half if the stock goes up as we anticipate the value of that call is increasing it's actually going further and further in the money well very nicely this is comforting we know that that call has no risk of early assignment because we're the owners of it and as the stock goes up that call is going further and further in the money which is helping us the put is going further and further out of the money risk of assignment is diminishing and diminishing and diminishing it's always theoretically present it's quite unlikely if if the stock is you know solidly above above 82 and a half that that short option will be assigned also when there's lots of time left on the contract it's also highly unlikely a contract gets a sign still a possibility though if the short option does get assigned that 82 and a half dollar put what that means is someone has the right to sell 100 shares of the stock to us at 82 and a half dollars right well now we're owners of the shares of stock does that increase our risk in the trade well it can because if we own the shares at the same time we own a call and then the stock goes down now we can we can suffer damage on both so be aware of that okay and that's why we sometimes call now i should also say at that same moment if the stock continues to go up now we have more that we could make right so it's not all bad it just depends on what the stock does after that point but do be aware that assignment risk is real anytime we're in a short option position okay but uh guys we have accomplished everything that i set out to do today i know that it was a bit of a taller order when we talk about something when we're using multiple options strategies just be aware if we're using a synthetic stock position it has the potential to make dollar for dollar the same amount as a stock for the time frame of the option it can also lose dollar for dollar don't lose sight of that risk is real um ap 514 says assignment will blow your account out yup depends on the account size 8 200 bucks that can be a bit pricey does that blow the account out do we lose all value no what it just means is that we had to pay 8 200 bucks to buy a stock that's worth whatever it's worth at that moment might be 8 200 bucks might be worth less than that but it would be that difference that we have blown out at that moment so if we buy the shares and then we're only able to sell it for let's say 80 a share that would be a 250 setback on that put but don't forget that we also received some money to sell the put in the first place so yeah it's always best to maintain a level head when examining you know what what actually happens at assignment it can feel very scary in most scenarios it's not as scary as as that initially feels always just really think through what's actually happened there okay all right so there we go we've placed our trade we've placed our stop there's not a guarantee i should have emphasized this earlier but i do want to emphasize it again even though we have a disclosure saying it us that stop order is not a guarantee that 500 is our maximum loss if the stock gaps down stock order fills we might take a bigger loss than we plan okay all right everybody thanks for giving your time today we've discussed what a synthetic stock is we weighed the pros and the cons of the strategy and we placed our example trade that's check check check this is what we do on friday mornings just talk about um trading a smaller account different ways that that might be done this is just one way that it might be done it's not a sales pitch for any particular security or strategy barb will be back again next week she's just taking the day off she's having fun down there in southern utah so have fun barb we'll see you next week thanks ken for helping out everybody if you're not subscribed to our channel come right down here click on this little blue button it helps you out it just it helps you follow your favorite webcast series your favorite instructors more readily it also helps our channel out so that's a win-win and if you're not following me and ken on twitter please do at k rose underscore tda at cma underscore tda time for me to let you go but as you go remember that risks are real we did use real information in this discussion real trades uh real trade examples in a paper money portfolio but it's not a promotion of any specific security or strategy i'll see you in my other regularly scheduled sessions i have one each day of the week monday through thursday on a range of topics you can find me in the calendar you can also find me as i mentioned on twitter but whether i see you in one of my monday web or one of my other webcasts throughout the week or i see you on twitter until the moment arrives when i do see you again i want to wish you the very best of luck happy trading have a great weekend everybody bye-bye [Music] you

2022-07-25 19:20

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