Does this mean someone can buy these contracts on the same day, exercised them the very same day and get a discount to the market price, dispite the daily low was 37 1/2?
Assuming that you can actually purchase them, you can exersize for a 1.31 profit, minus brokerage fees. The posted price of 11 5/8 does not mean that there are actaully options to sell at that price. This LEAP may be very illiquid. When you place your order in, the price will get adjusted accordingly. I have seen this with very illiquid stocks.
Options do at times sell below parity. This is more likely to happen during options expiration week with a volitile stock. Also, the MM may sell below parity on option expiration day in order to facilitate an orderly handling of the options that are to expire on that day. This will give the MM a buffer from losing any money in having to exersize the options himself. Also, this will encourage arbitration by the big players purcasing and exersizing the option themselves. The MM does not want to end up with any options by the end of the day.
However, it is difficult for the individual investor to take advantage of options that are actually selling below parity. First, the option is only selling below parity by a fraction of one point. Arbitrage by firms with lots of $$$ and no comission costs will manage to bring the option quickly inline with "fair" market value with respect to the underlying stock.
I suspect when the aribtage firms unwind their spread position, this can cause additional volitility with both the option and the underlying stock. The increase in volitility will be more noticed in the stock by the investor since it is the price of the stock that is closely watched. This is one reason why options expiration week can cause an increase in volitility with the underlying stock. Add to this the exersizing of the in-the-money options by the option holder, including the MM, and you can end up having a very volitile Friday for the underlying stock.
So in summation, as you know, there is no free lunch for the individual investor. The arbitrageurs are the ones who go out after that "free lunch", but then they are competing with others doing the same thing, and there are risks involved with the unwinding of their position. What may seem like a discrepency beetween the price of the option and the price of the stock may not be a "free lunch" after all.
Bob Graham |
