Hello everyone, Say I have an options strategy which requires me to hold a Synthetic short stock position for 1 year. So that's: a Long put with 1 year expiration + a Short Call with 1 year expiration, with both at the same Strike price. My strategy requires me to hold it for at least 1 year. However, lets say 6 months into the year, my short call is deep in the money and gets assigned, so I am obligated to fulfill it. Now my multi-leg strategy is broken as my short call position is gone. How would I go about reconstructing it so I can continue on the position for the rest of the year? Would I just Instantly sell the same calls at the same strike price with the same expiry? I assume the credits from selling the same calls would essentially cover the loss from the assignment, and the position would continue on? Thanks
First, what is the reason you prefer the option synthetic rather than just being short the stock? Second to answer your question, if you are being assigned on your short call, it is most likely because of a dividend or because the stock is hard to borrow. If it is because of a dividend, you can simply resell the call you were assigned (and buy in your short stock that you were assigned on) and you will now have the same position. If it is because the stock is hard to borrow, you wouldn't want to resell your call, as you would just get assigned again. If this is the case you would move to a higher strike (where the call isn't in the money) and do a conversion. This is a spread where you buy stock, buy a put and sell the same strike call. It would buy your short stock back that you were assigned and set you up with a new synthetic. Note you would also still be long your original put that is now out of the money.
Thanks for your reply. Firstly, I have my own reasons for wanting to use a synthetic short instead of a short stock. One reason is that I can generate the same profit/losses with much less capital. Secondly, considering the type of securities I am constructing this position on (Exchange traded notes), the only reason the call would be assigned would be due to it being deep in the money, as there are no dividends. My main objective is to hold this synthetic short stock position for at least 1 year, with minimal disruptions. So would instantly re-selling the call with the same strike & expiry allow the original position to be resumed? I I assume it would. However I also assume the credit from selling the same calls would not entirely cover the loss from the assignment due to the lower time value in the calls. Also to your point on doing a conversion, I wish to only be involved with a position which exactly resembles a short stock payoff diagram.
Since there are no dividends your risk in being assigned is if the stock is hard to borrow. In this case you would not want to simply resell your calls (and buy in the short stock you would have as a result of being assigned) as you would continue to be assigned. In this case you would do the conversion I mentioned. This spread will give you exactly what you had, but with a higher strike price where there is no risk of assignment. For example, you are long the 30 puts and short the 30 calls (what you originally asked about). The stock goes to 60 and you are assigned on your short calls. You now have short stock and are long the 30 puts. You then buy the 70 conversion as a spread the number of times you were assigned. This buys in the short stock you were assigned, sells the 70 call and buys the 70 put, all as a spread. Now your new net is no stock position, and you are again synthetically short the stock with the 70 strike price, and no current risk of being assigned. (you will still be long the 30 puts which should have almost no value). If you believe you are going to be assigned and have not been yet, you can also buy a box. Here you would buy back the short calls and sell the long puts you have and resell a higher priced combo, all as a box spread. This 'rolls" your synthetic to a higher priced one where there is no assignment risk. Of course these options not only have transaction costs, but you will have to give up some edge to put them on.
I understand your points, but firstly, you mentioned that If I were to simply cover my short position and re-sell the calls, I would continue to be assigned. However, every time I am assigned early and enter a short position with a paper loss, I should still be making a small gain on the remaining time value of those calls. Then if I were to cover my current short position to realise the loss, and then re-sell the same calls, I would be receiving a credit which is slightly greater than the realised loss on covering the short (due to receiving money on time value). Correct (?) Your suggestion to engage in a conversion makes sense, however, doing a conversion when I get assigned would just result in more capital outlay every time I get assigned. Also, holding a new synthetic short position at a higher strike + with the original put, results in a net payoff diagram that isnt exactly like a short stock anymore.
So if you are assigned on the calls, there is going to be no time value left. If you re-sell them you won't be able to sell them with any time value at all (if they are indeed going to be assigned) so you won't make any money when assigned again. The new synthetic position you would put on as I mentioned is exactly the same as the old position (without the risk of assignment) and replicates short stock exactly the same as the old position did.
Im not sure you read my original post right. The original post was talking about getting assigned before expiration, so there would be time value on the option. Also doing a conversion would not replicate a short stock. If you get assingned early and do a conversion, you now have two sets of puts and one set of short calls. How can the net payoff diagram possibly be exactly the same when you'll be in a default net debit.
No you are wrong on both of these statements. You may be getting confused on what time value is. If you are getting assigned on the calls because the stock is hard to borrow, the market is saying there is no value over parity on your calls. There is no time premium. They are trading at parity. If you resell them you will most likely have to sell them UNDER parity and will lose again when assigned. On your second point, please re-read my example. After you do the conversion I mentioned, you will be long the 70 puts and short the 70 calls, which is the same synthetic short you had before, but with a different strike. You again have replicated short stock. You will still be long the 30 puts, but they will have no value, if they do you can sell them out, pocket a few cents and then you will just have the 70 combo, again the same thing you had before but with a different strike, again you are synthetically short the stock. Remember, what ever strikes you choose, if you are long the put and short the call, you are synthetically short the stock. Doesn't matter the strike, although deep in the money strikes may have exercise risk.