Luc you are wrong... wrong and luckily Monty looks good
with Big Flopy shoes and a red nose -g-
Gary said cover his position.
the only way that a long put position can ultimately
be covered is by buying common stock, when done in
the right black scholes ratio, the position is completely
square. yes you can offload the puts to someone else
but when they go back to the market makers who buy them
from you at a discount they then look in their profit
by going long the common stock.
when the 56,000 puts were written by GS, or MSDW or MER
they immediately went into the market and shorted stock
to limit their exposure, or maybe shorted a ratio of stocks
and sold off puts that they had built up or that another
client wanted to sell.
If you pay up in price you can get 56000 puts, and when you
pay up you you create profit arbitrage opportunities, but
it does ultimately come back to the underlying instrument
that one is buying puts on.
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Cramer Rewrites 'Putting Up With Negativity'
By James J. Cramer
Originally posted at 6:00 AM ET 8/6/00 on RealMoney.com
(I keep harping on themes like this because the general public constantly underemphasizes the role of the hedge fund or funds in determining pricing. If you are paid on your gains and you run lots of money, you are compelled to make large bets that affect the market constantly. I remember when we were a little fund, working with my wife, and our goal was to make $25,000 a day. You can do that being right on 15,000 of some wild swinging biotech stock. But when you're running a billion dollars, making a million dollars a day often produces merely competitive performance. You have to make giant bets as a matter of course. As the market doesn't allow you to make all of that consistently to the upside, you have to make bets against companies, too, to reach your goals. As there are more than 10,000 hedge funds -- probably 10 times the number of when I started -- you have a lot of impact players out there. This is about those players and what they do, how they roil the market.)
Markets turn on negative sentiment. That's because there are so many hedge funds out there that buy puts when they think things are going to go bad, and when they do, they set up a natural buyer in the market. (The concept of the "natural" buyer gets talked about a lot among professionals. That's because when someone shorts a stock he has to buy a stock, or cover, to make the profit. You can't just let it hang. It is, typically, a short-term strategy that forces you to sell first and then buy. So when you see someone buying puts, you have to say to yourself, at some point that person has to be either a buyer of stock against those puts or a seller of puts to close out the trade.)
So let's say you know that National Gift Wrap and Router Co. is going to report next Tuesday. (People love to make bets ahead of quarters. In a way, it's a stupid game because these days, if the company were to report anything less than a vaguely in-line number, it should have stopped trading and preannounced that bad number. If the company is going to report an in-line number, it probably won't move unless it has moved up in anticipation of that move. That could produce the desired downside results if you are short.)
Let's say you hear from one of National Gift's 400 resellers, from the Quad Cities, who sells about $300,000 of National Gift's product, that the selling didn't go well last week. (This kind of stuff happens all the time. Many hedge funds like to do primary research. Tech companies rely on resellers for product sales. If you can befriend a tech reseller, you can find out how the primary tech company is doing. These resellers have pieces of the puzzle. But sometimes it can be dubious, because they don't see it all. In fact, in my lecture on Monday night for RealMoney -- yes, I would love to see you there -- there are plenty of times the shorts are ambushed because they have seen only part of the puzzle.)
You leak that news to a friendly but confused National Gift and Router analyst. He gets all nervous, so you go and buy 50,000 puts on National Gift. (Understand that this was an attempt to explain what happens in a host of tech companies' stocks. I know that people bounce off research like this and if they get a rise, they take action. This was big action. But it wasn't a lot of money. If you run a lot of money, you have to take big action like this or it doesn't help.)
Everybody sees your buy. (It's impossible to hide your actions when you move so big. You're like the U.S. Army moving into the jungle in Vietnam. You can't disguise yourself effectively enough because you aren't meant to be in the jungle disguising yourself. Lots of these funds don't know this. They think nobody can see their actions. They're stupid.) You would have to be on the Survivor island not to have seen it. (I cannot emphasize this enough: These things are seen by all and only a fool thinks that he is not being monitored by the market.)
Even the press sees your buy. People piggyback. ("Hey, that guy must know something. Let's imitate him.") They call National Gift and, because it is a legit firm, not some fly-by night, scum-sucking firm, it tells you nothing. (You call the investor relations person and that person will give you only his name, rank and serial number. He can't tell you anything. That would be selective disclosure of a piece of material information that no one knows except the top people. It would be unfair and illegal.)
So they buy more puts. And more puts and more puts. They buy the deep puts and the out puts and the at-the-money puts. They short common. Then they spread that the company has a shortfall and will preannounce a bad number. (Bad guys actually make up stuff like this. They do it because every day that the bad news doesn't come out -- if there is any bad news to begin with -- is a day that the puts lose value or others panic and cover. These puts are ticking time bombs, believe me. I've had a few blow up in my hands.)
But they don't. In fact, National Gift lets people know that the company will be reporting the same solid number it always does. (A company can say, "We're going to report on our regular time." And it's possible that a back channel can tell people, "If we were going to preannounce, we would have done it by now.")
What do you do if you're short it? You cover. What do you do if you own puts? You buy common stock against them or you sell the puts. The stampede gets put on in reverse and National Gift starts climbing before it even reports the now-more-than-likely not disappointing number. That's the way it works. National Gift rules.
(When you go to buy a put of the side that I see bought regularly, you cannot naturally go into the open market and find others who will take the trade. You have to have someone "facilitate" the trade. That means they position it. When you go in to buy 100 shares of a stock there is always a seller of 100 shares, including the market-maker. But when you want to buy 100,000 shares, someone has to work to find a buyer. That's what institutional traders do. If you want to buy 1000 puts, the equivalent of 100,000 shares sold short, someone at a major firm has to short those puts to you. That's his job. He gets a big commission for it and will hedge himself when he does.
The greatness of my colleague and head trader, Todd Harrison, is that he was a derivative trader at Morgan Stanley, where many of these strategies are put on. He would short stock and sell you the puts. Sometimes he would go with you on the trade. But he is a natural enemy either way. You don't want him panicking and covering his short. That's visible. And you don't want him "shooting against you," meaning you don't want him saying that he thinks you're wrong and he goes long National Gift and Router and even walks it up. That's the kiss of death.
These battles take place every day and they end up moving the common stock even though nothing has happened to the company. That's how negativity ends up causing stocks to spike.) |
