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How smart are index puts in a rising market? | Advantage Research

We thought results season was finally over with AIG and Berkshire Hathaway when both produce their results this week. Though dangers of a double dip recession have faded however, both these otherwise very predictable results may actually prolong the argument in the equity markets as well beyond the bond traders who have been out of work for a couple of quarters. AIG of course is still on track with earnings beating street estimates with Operating income at $1.99 against the street’s $0.99. However including non cash impairment (of goodwill ) from closed out operations internationally and in FP businesses, it is recognising a loss of $2.7 billion or $3.96 per share with the discontinued ops turning red for $3.4billion. Asia Ops from AIA topped $650 million and Domestic Life operations made $2.2 billion in operating income

Coming to puts, simply writing puts means making available these to buyers who are betting on a stop on the bull run at the ‘STRIKE’ so if the Dow 12000 put ends at 11500, it earns 500 bucks on the settlement day. If Berkshire Hathaway writes a million such puts ending August 31, it can probably earn at least $0.10 for each of these puts making $100,000 in this series.

Upcoming regulation from Dodd Barney however puts writers like Berkshire Hathaway in a quandary. Those who depend on premium income are likely to get into a tizzy over the regulation which requires the put writers to post physical collateral or equivalent cash margin making even simple out of the money puts a difficult and expensive proposition. However the proposition is intelligent if you consider that when losses do happen the wider markets suffer a greater crisis of confidence and as buyers of put strategies do pay margin collateral to carry their positions in the futures markets, things will be more or less safer. Things will not be equitable in any case if law makers are worried about the same even after the regulations are enforced as per se call buyers or put buyers in bearish strategies have absolutely no outgo except the premium. The regulation just stops writers or sellers from making clean money by writing these puts and make an investment albeit in collateral on the cost side to increase accountability and ethics. It does increase equitable provision in the sense that retail writers of puts do have to post collateral to the brokers in basic strategies here in Asia and in that wholesale put writers / broker traders need to put their skin in the game much like the rest of the regulation

Berkshire Hathaway, Buffet and Ajit have apparently walked into a bull trap, betting on the positive markets in the June quarter and likely to show $5 bn in losses from the Puts which ended in the money. (hat tip, FTAlphaville) Apparently the losses are on paper only in which case everything’s fine till the law comes to town. Berkshire HAthaway B shares are actually outperforming the S&P SPDR again in August ( Reuters calss it the Fear Greed ratio) after a similar run in May and June, July SPDR ( S & P 500 Index based stock) did catch up but now it is weak again

4 comments on “How smart are index puts in a rising market? | Advantage Research

  1. Pingback: Tweets that mention How smart are index puts in a rising market? | Advantage Research | The Banking and Strategy Initiative --

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    July 26, 2011

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This entry was posted on August 6, 2010 by in Amitonomics, Banking, Financial Markets, US.


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