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Strategies & Market Trends : Floorless Preferred Stock/Debenture -- Ignore unavailable to you. Want to Upgrade?

To: Zeev Hed who wrote (11)	8/2/1998 9:46:00 PM
From: drjoedoom	Read Replies (1) \| Respond to of 1438

Zeev -- Here's my response. << Do you agree that shorting stock put some pressure on the stock price (simply because there is a larger pool of sellers than it would otherwise be). >> Yes. We should keep in mind that the would be short-seller must be able to borrow shares to short (not always posssible) and must short on up-ticks (so there must be a willing buyer). Also, let's beware of getting too far ahead of ourselves. Your question presumes that the owner of a floorless can expect to ENHANCE returns by being short. << Do you agree, that once the floorless bandit has hedged his whole convertible position, he no longer has any funds at risk in this specific stock? >> No. The bandit has recovered his $10 MM, but that does not mean that funds are not still "at risk." He has a short position of known size (# of shares) and a long position of an unknown size. Consider your example of the seller of 1 MM shares at $10, who accomplishes his selling without driving down the price of the stock. If, for the sake of argument, the stock then jumps to $20, the floorless would convert to as little as 1/2 MM shares. So the bandit would find himself net short as much as 1/2 MM shares, at a loss. Ironically, the bandit would himself be a reservoir of future buying, if he struggled to cover the short rather than take his loss quickly and convert. He could, of course, sell more. But that wouldn't be arbitrage; it'd just be a bigger, riskier short. << Do you agree that he collects interest on the face value of the instrument without having capital at risk if he has completed his hedge? >> I agree that the face amount grows at some stated rate of interest. That's why the owner of the floorless doesn't need to play games shorting the stock to earn a profit. << Do you agree that if the stock has gone down, by a marginal amount (let say 10%) he can now increase his short position by the same 10% thus maintaining the above mentioned pressure on the price? >> Yes. But you yourself have consistently stated that the investor in the floorless adopts a very conservative strategy. Accepting your premise that the owner has gotten out his capital, plus interest, he has no need to create a short position at a low price -- particularly when any subsequent rally in price will leave him not hedged but net short, as indicated above. << Do you agree that unlike normal short, the floorless bandit does not create with his short position a reservoir of future buying, since he can cover his short with NEW stock from conversion? Normal short have to cover creating a pool of buying power, bandit do not cover, period. They convert during the "end game. Sometimes, when they have access to special information, they may partially cover just to reset their short at partially higher prices (see HEC on the close yesterday), making more money in the process. >> Not necessarily. In the case of HEC, the company has the right to redeem for cash rather than shares. Such a cash redemption would leave quite a "reservoir of future buying." In most other cases, any increase in the price of the stock would create a reservoir of future buying because the "bandit" would be left net short, as argued above. << Do you agree that if the stock has now been halved, his short position can be doubled? (and I can give you more than 10 cases where that has happened and as many cases where the final denouement was at less than 10% of the original price). Sure, but only if he is certain that the price will not subsequently go up. ANY short can make money, floorless or not, if he is certain that the price won't go up. :) I think that covers your substantive questions. Still seems to me that the owner of the floorless has no need to get short to earn a decent return and has no guarantee of enhanced returns DUE TO THE FLOORLESS FEATURE ITSELF. Joe