What do you guys think about doing a naked short on an investment bank's 2009 out of money put? The reasoning is that by 2009 the financials should recovered and be higher than current price which most agree is near the bottom. For example lehman (currently at $60) has a JAN 2009 put (VHEMJ) at $5.30 If i short 100 contracts, that's $53k cash and i start to lose money when the price is below $44.7 on expiration. Margin requirement for this trade is $50k. Is this something that's considered taboo in the option world? I mean it sure beats the weekly (or monthly) grind of buying/selling and risking your money. This way i make 1 bet, spends less time researching, and also lower risk i think. Since i am betting a $60 stock which is near the bottom will be higher than $45 a year from now verus if you do monthly trades. any thoughts?
Then i go broke and lose all my money but isnt that true when you short anything without hedge? I am making a bet based on current market condition and the company that there is a very low probability this will occur. Could also play it safer, and buy the 2009 45 PUT then my max loss is capped but loses 80% profit.
In 2000, many people believed it very unlikely Enron would do what it eventually did. Please remember that "very low probability" is not the same as "zero probability". Fat tails can smack really hard.
Believing that you only lose money if the stock is below your break-even level at expiration is an improper view to have. You should give more thought to selling a 3-month option, four times, instead of selling a 12-month option only once and watching the position closely.
I second that. A 12-month option has virtually no decay, so all you will be doing is taking on the risk for the next 9 months, at least, without getting any reward. I would even suggest selling 1-month option twelve times.
I agree with the guys above. Its not only the stock falling thats your risk right now. Its the stock falling and the pending IV explosion which would occur. There is a clown on the yahoo options boards who tried this strategy with the Home Builders and financials earlier this year. Needless to say he's been bludgeoned badly.
To kind of summarize what the others have told you, what you are doing with this approach is: 1) Assuming the risk that something will go wrong, and 2) Allowing a lot of time for something to go wrong. Strikes me as a bad combination.
if you have to have sector exposure, why don't you sell the XLF put near or at the money every month. If you get assigned, sell an upward call the same way to get rid of your stock and make back $$$ on the volatility. Rinse and repeat. Doing this on the XLF versus 1 isolated company may offset the probability of a fat tail event bankruptcy wiping you out. credit default swaps liabilities aren't even on the radar yet.