Is this not instant arbitrage?

Discussion in 'Options' started by scotta65, Dec 11, 2012.

  1. scotta65


    Right now, AAPL is trading at 541.38.

    Covered Calls with a strike of 530 (well in the money) have a premium of 19.20 on the bid side.

    If I did a buy-write, I would buy 100 shares of AAPL for $54,138 and receive $1,920 for the premium.

    Assuming someone exercises, I would sell AAPL for $53,000.

    $1,920+$53,000 = 54,920

    54,920-54,138 = 782

    Profit of $782.

    How is this not arbitrage?

    Sorry if this has been discussed before, I am new here
  2. No, your definition of arbitrage is not consistent with theory. The arb is: Buy AAPL, sell call, buy put (conversion arb). You're buying the natural and selling the synthetic.

    If the resulting debit is less than $530 then you have an arbitrage, excluding carry. There is risk of AAPL dropping South of the strike, represented by the premium in the put. The put would be worthless (or near so) if there were no discernible risk of trading under $530 by expiration.

    530 + 19.20 - 7.82 = share price.

    Another way to visualize:

    541.38 - 19.20 + 7.82 = strike price.
  3. 1) Oh my God, you are "so new". :eek:
    2) It's not arbitrage in the traditional sense because the stock and it's call option are not the "same" instrument. :cool:
    3) You will not get early-exercised on the 530-call when it has so much extrinsic value remaining in it. You will have to "sweat it out" much closer to expiration. :(
    4) If and when the option premium trades at a discount to intrinsic value, then you'd have a better opportunity. :)
  4. - $11 on a $540 stock is not "well in the money". It's 2% in the money.

    - What happens if AAPL falls to $300? What will your arbitrage profit be then?
  5. sonoma


    If you're new to this, read atticus' explanation and then Google exercise and assignment. You're confused because you've assumed that you'll be assigned. The owner of the long call has no reason to exercise under these circumstances.