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HI All,
How would you like to use a stock split to double your money guaranteed or
use the price of options to predict the direction of the stock??
On 5th Jan I and my wife had the pleasure to get a personal tour by Michael
Williams, ten year veteran of the PCX and now off the floor trader. Also
puts together http://www.marketcompass.com/ which has an excellent
picture of the pits. The one story room has multiple computer quote screens
for every option traded on the PCX. Up high are the regular CRT and on floor
level are LCD screens, probably over 1000 total.
First thing Michael said was the market makers standing around in their
clearing coat jackets are in competition with each other! Also the PCX is
the first exchange that is for profit! Dress is very casual (no tee shirts)
mostly male under 40 years of age. The average market maker makes $500,000
with top MM 10 million last year. To look at them you would never know. We
stood by the MSFT pit about 20 feet wide with 20 or so market makers, and
the Pacific Stock rules people behind the screens looking at the floor. I
later saw the top rule maker and keeper (Sheriff) later at Walgreen's
getting medicine(from all the shouting and worry). A retail broker came into
the pit with a customer order and stopped everything. Customer orders come
first over all others, then the big houses come in with orders and the
market makers really get excited.
The market maker is always hedge for their margin isn't like retail, just
have to cover the risk. In fact there are computers and people to take
orders from the market makers to buy stock.Watched one person sit at a
computer ready with a MM yelling "buy me 1000 shares" or what ever happens.
The PCX floor people go to a special 2 week school just to learn the lingo.
All market makers are hedged and non directional. I asked Michael what the
MM's paper they bring in the morning, so we picked up one 8x11 paper off the
floor at the MSFT pit. This has 12 columns with the smallest print and every
Jan opt listed on the side and what the price should be under normal
validity of 33 to 38%. Then the MM's just buys and sell depending on the
historical volatility. This paper had all the Greeks and when translated had
$14,000 erosion of premium every day and for every 1 point change in stock
price $4000 profit and every point change in volatility $69,000 profit.
Positioned and hedge to take a down market or up.
So does the MM's know when a stock split is coming up- most times NO, they
just make a market being fully hedge and the price of the options depends on
supply and demand. Orders come in from all over the world and the way I see
it if we and others want an opt from the warehouse of the MM then
volatility goes up and with that price.
So 'guaranteed to double your money on a stock split' buy a 1/16 option days
before split and then after the split you have 2 because the PCX can't go
below 1/16. ?? Of course finding a buyer later might be a problem!
Which comes first the stock price or options price. It depends, for example
because the MM's are hedge, the day of expiration the MM might have to buy
more stock or options to get neutral in their overall position, thus if you
see options activity around the strike price you know the stock will end up
closing pretty close to the strike prices.
Well those are my thoughts from the PCX tour.
Again thank you Michael Williams of MarketCompass.
Jerry Gress
Stockton, Calif. USA
trader@xxxxxxxxxxxxx
PS. Michael's email on Pinning!
It is called Pinning (like pin something to something else)
The stock price comes first since options are a derivative product. An
options trade can move the stock. When a market maker (MM) trades an option
he hedges that option - most of the time with stock. A hedge is an opposite
bet to neutralize risk. Example if a market maker buys a call (which is a
long position - like being long the stock) the hedge would be to sell stock
against it. The MM has now neutralized that long call with short stock.
On expiration Friday all options will have intrinsic value (ITM
In-The-Money) or are worthless (OTM Out-of-The-Money). The ITM options are
hedged by buying or selling stock.
If the stock price is close to an option strike price and that option has a
lot of open interest there is a good chance that the stock will close at
that strike price, this is called pinning.
If the stock moves above the strike price the options have intrinsic value
and the MM needs to sell stock to hedge the long ITM call. If the stock
drops down below the strike price he has to by back the short stock hedge as
the option becomes worthless. If there is a lot of open interest in the
strike price this could force the stock to pin to the strike price. Because
of all the MMs hedging their position.
I hope that this has helped clear the matter of pinning.
Michael
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