To: Gotham Guru who wrote (286 ) 1/7/1998 1:56:00 AM From: space cadet Read Replies (1) | Respond to
While I have some pretty sophisticated methods involving longs and covered calls, I'm a beginner going short, except for puts, which I am avoiding. IMO puts are only worth the outrageous premiums when the premiums aren't so outrageous-but all the tech stocks mentioned on this thread have outrageous premiums, maybe for the dow stocks the premiums aren't bad- and when the market is is the midst of a bear crash, as in October for example. Right now, we are not in a bear crash mode so I think puts are premature. However, I would like to discuss methods of going short. For example, do you go short gradually, first shorting just a few shares and then adding to your position as the short goes in your favor, or do you sell covered puts on them or what? Do you use a mechanical stop loss to automatically cover at a predetermined loss amount (5% or 10%) or what? For going long I feel like I know what I'm doing but not for going short so any real life examples are appreciated. Incidentally while I think puts are overpriced and "irrational" to buy (though obviously not to sell) I don't think the same is true about calls, or at least for long term calls. That is because of a curious asymmetry between puts and calls which I haven't seen stressed in the books on options but which to me negates the value of buying puts. That is, when your calls go in the money the price of the stock, by definition, is going up. Thus the (time) premium of the stock option is also going up (in absolute terms, just to maintain its relative value). This effect conteracts to some extent the fact that your call is going deeper and deeper into the money and thus your call will only slowly lose its time premium despite its going into the money. With puts everything is reversed, as the stock gets cheaper and cheaper. Thus your puts will lose the time value almost immediately and your puts will quickly trade for only their intrinsic value whether they be 1 month, 3 month, 6 months, or even longer. I have seen this happen to me personally so it is much more than an academic exercise. To me, this is the single most important reason to avoid buying puts. Of course, this effect is known, and for that reason puts are supposed to be cheaper than the equivalent call but at least on the type of stocks we discuss on this thread the puts are not discounted enough to make them worth buying.
