Risks of stock EFPs ?

Discussion in 'Financial Futures' started by saratur, Nov 8, 2009.

  1. saratur


    I consider opening EFP positions (at IB) and holding until expiration in order to capture discounts or premiums. I also consider using high leverage (if I correctly understand, the margin requirement is only 5%). I am trying to understand the risks – for loss, and for unexpected increases in margin requirements that might create havoc if the account is highly leverage.

    So far I figured out the following:
    A. for capturing a significant SSF discount with a short stock, long SSF on a hard to borrow stock: IB might close the short of the stock position before expiration, and the forced buy will create an immediate requirement for significantly higher margin, and leave a naked long stock position. This could be a problem if I miss such notification (or IB does not send me one – that happened); and when I become aware of it and liquidate the SSF, pricing might be bad. Another risk: Short borrowing fees might be much higher than the indicative rate. Also a very unusual, huge increase in stock value will increase margin requirement.
    B. For capturing premium with long stock short SSF: If the company does not pay expected dividend – a small loss. Also if the stock rockets, increase in margin requirement.

    - Other risks and considerations I am missing?
    - Will I have any problem of potential loss or unexpected margin requirement in case of an anomaly, like bankruptcy, acquisition, or trading halt?

    I have noticed a couple of times a relatively high SSF discount on a stock that does not have high borrow rate – and I wonder if this reflects some risk or consideration I am missing.
  2. dmo


    The answer is "probably." Easy money doesn't usually just sit on the table for long.

    You found the Shld thread on the Options forum; it turned out the borrow rate was way higher than expected, and more than justified the spread against EFP's.

    But my best suggestion is to find a situation that looks like a lock to you and do it very small, expecting to take a loss. If there's anything wrong with it, that's a sure way to find out. Consider it education money well spent. And if by chance you make money, then hallelujah.
  3. saratur


    dmo – regardless of whether going small or big, I am trying to understand the underlying risks, to better understand the probability for a loss and situations that could drive it – in both long and short EFPs. My question is not only regarding situations which seem to be 'out of whack' . I am also trying to understand whether situations with "normal" arbitrage spreads (e.g. few % annualized with long stock and short SSF) are exposed to special risks during anomalies (e.g. merger, bankruptcy, halt) – and there is risk for the invested capital, not only risking the level of premium or discount.
    Also, today one can find short EFPs with return higher than IBs borrow rate. I am trying to understand whether using leverage for those makes sense.