Using Veritas to Construct the "Per…

29-04-2017 Hits:85773 BoomBustBlog Reggie Middleton

Using Veritas to Construct the "Perfect" Digital Investment Portfolio" & How to Value "Hard to Value" tokens, Pt 1

The golden grail of investing is to find that investable asset that provides the greatest reward with the least risk. Alas, despite how commonsensical that precept seems to be, many...

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The Veritas 2017 Token Offering Summary …

15-04-2017 Hits:80003 BoomBustBlog Reggie Middleton

The Veritas 2017 Token Offering Summary Available For Download and Sharing

The Veritas Offering Summary is now available for download, which packs all the information about Veritas in a single page. A step by step guide to purchasing Veritas can be downloaded here.

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What Happens When the Fund Fee Fight Hit…

10-04-2017 Hits:79864 BoomBustBlog Reggie Middleton

What Happens When the Fund Fee Fight Hits the Blockchain

A hedge fund recently made news by securitizing its LP units as Ethereum-based tokens and selling them as tradeable (thereby liquid) assets. This brings technology to the VC industry that...

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Veritaseum: The ICO That's Ushering in t…

07-04-2017 Hits:84342 BoomBustBlog Reggie Middleton

Veritaseum: The ICO That's Ushering in the Era of P2P Capital Markets

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This Is Ground Zero for the 2017 Veritas…

03-04-2017 Hits:80884 BoomBustBlog Reggie Middleton

This Is Ground Zero for the 2017 Veritas Offering. Are You Ready to Get Your Key to the P2P Capital Markets?

This is the link to the Veritas Crowdsale landing page. Here is where you will be able to buy the Veritas ICO when it is launched in mid-April. Below, please...

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01-04-2017 Hits:83130 BoomBustBlog Reggie Middleton

What is the Value Proposition For Veritas, Veritaseum's Software Token?

 A YouTube commenter asked a very good question that we will like to take some time to answer. The question was, verbatim: I've watched your video and gone through the slides. The exchange...

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28-03-2017 Hits:54140 BoomBustBlog Reggie Middleton

This Real Estate Bubble, Like Some Relationships, Is Complicated...

CNBC reports US home prices rise 5.9 percent to 31-month high in January according to S&P CoreLogic Case-Shiller. This puts the 20 city index close to an all time high, including...

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Bloomberg Chimes In With My Warnings As …

28-03-2017 Hits:82264 BoomBustBlog Reggie Middleton

Bloomberg Chimes In With My Warnings As Landlords Offer First Time Ever Concessions to Retail Renters

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27-03-2017 Hits:82117 BoomBustBlog Reggie Middleton

Our Apple Analysis This Week - This Company Is Not What Most Think It IS

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27-03-2017 Hits:81985 BoomBustBlog Reggie Middleton

The Country's First Newly Elected Lame Duck President Will Cause Massive Reversal Of Speculative Gains

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22-03-2017 Hits:88010 BoomBustBlog Reggie Middleton

Sears Finally Throws In The Towel Exactly When I Predicted "has ‘substantial doubt’ about its future"

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I troll the comment and discussion boards regularly, even when I am not posting. I don't always comment because I can get petty busy, but I am around. Since the topic du jour seems to coincide with one of the most oft requested services - trading techniques, I've decided that I will put some illustrative samples up every now and then. The examples will center around Pro subscriber material, since those are the guys who pay for the premium stuff. Anybody can look at and learn the strategies, but to get the full effect you should be a member. Please keep in mind that these are just illustrative examples and they are not to be taken as advice or even instruction in any way whatsoever.

This is based upon the March Residential REIT Intelligence Note I released a few days ago (see American Campus Communities Summary Preview - Pro Summary Preview - Pro 2009-03-09 00:40:22 436.84 Kb). This has not been proof read, so there may be errors, and it does not take into consideration margin costs and requirements (that varies by reader) nor commissions. I want all to know that this particular strategy is a very high risk, very high reward strategy for those who are fundamental investors, not traders. Option traders (should) focus more on volatility and the statistical probability of price movement either direction. If one were to use this technique for that approach you would be engaging a respectable risk/reward scenario, but still one much to lean for my taste. As you know, I am an old school fundamental investor. I attempt to find companies, assets, market cycles and situations that are grossly mispriced and/or misunderstood and take big directional bets against them. Thus, my returns should break the statistical tables primarily because I am working on what is not publicly known (although it is publicly available) information - or to put it more succinctly, KRS: Knowledge Reigns Supreme!

The trade below is what I call a Net Credit or Zero Cost Bear Trade. It is designed to take maximum advantage of expected downward movement of an asset, in this case the common stock of the Intelligence Note subject! It is actually quite simple. In an margin account, you short the stock and use the proceeds to purchase at-the-money or out-of-the-money puts (depending on how bearish you actually are) on the stock. The trade will either net you a credit, as in actually leave some money in your account, or net near zero meaning that you did not have to come out of your pocket to execute the trade. As I have stated above, this is very high risk and very high reward. For those who can't handle the risk, you can hedge by buying calls to counteract unfavorable (upward) price movement.

Needless to say, you can be burned big time if thing move against you, but if you take small bites, it leaves you some liquidity and flexibility and offers big returns. I have put the numbers in for a straight put purchase (much more conservative and safer, but still spicy for beginning investors) as well to give you a reference point for comparison. Let's used today's stock and option pricing (approximate) and the valuation band of the Intelligence Note for starters.

Using the Zero Cost Bear trade, the faster the underlying hits your pricing goal, the more profitable the trade due to the time decay of the options, and the interest/dividend expense of holding the short position. Even if the trades takes months to payoff, it can still be quite profitable. The caveat is that it can be quite devastating if it moves against you, but not nearly as devastating as a full short stock position though. Remember, you entered into this trade paying virtually nothing out of your account, and if the REIT hits the valuation goals stated in the pro report, you walk away with $25,000.

Click the graphic to enlarge to printer size.

image003.png

Now that we know what the profit and loss potential looks like, let's compare it to buying plain vanilla at the money puts.

Option Trades:

Action: Buy/Sell

Option Type

No. Opt'ns 

Strike

Days to Expiry

Option Value

Debit/ Credit

Greeks: Delta

Net

.XXXXxx

Buy

Put

5,137

17.50

184

3.4734

(17,843)

-0.42

Out' money

Volatility impact on closing before expiry
  Volatility Adjusted  
  Change volatility  
  -6% 63%  
       
 

 Straight Put Purchase

Breakeven analysis if close at 11-Sep-09
Analysis date: Expected return:    
  Risk fr rate 0.75%  
  Risk prem. 5.00%  
  Exp return 5.75%  
B/E point P or L Probability  This is a statistical measure, and does not take into consideration the special things that BoomBustBlog Pro subscribers know that the majority of the market doesn't!
Below 14.54 Profit 41.4%
Above 14.54 Loss 58.6%
Probability of profit:   41.4%
Probability of loss:   58.6%

Remember, we're fundamental investors over here at BoomBust and not option traders, so the statistical odds of our trades going deep in the money are significantly higher than the average traders. I have covered about 90 companies, over 70 in depth and have a hit rate of 100% thus far - see "Research & Performance", Updated 2008 performance, and BoomBustBlog Performance, year to date for proof and documentation.

Financial Analysis
       
Net initial (debit) or credit        (17,836)
       
Static return (spot unchanged)  
Profit (loss)          (17,836)
Return for period   -100%
Annualized ROI   -100%
Maximum profit    
Scope     Capped 
Maximum profit         72,027
Return for period   404%
Annualized ROI   --   
Maximum loss      
Scope     Capped 
Maximum loss        (17,836)
Return for period   -100%
Annualized ROI   -100%
Target return      
Target underlying price           12.70
Profit (loss)             6,812
Return for period   38%
Annualized ROI  

90%

Zero Net Cost, Leveraged Bear Trade

Now, let's contrast the plain vanilla put purchase with a leveraged put purchase. We buy just over 5,100 ATM puts, and finance the purchase by selling short 1,000 shares of the underlying. This entire trade costs us US$3 (plus commissions).

 

Option Trades:

Action: Buy/Sell

Option Type

No. Opt'ns 

Strike

Days to Expiry

Option Value

Debit/ Credit

Greeks: Delta

Net

.XXXXxx

Buy

Put

5,137

17.50

184

3.4734

(17,843)

-0.42

Out' money

 

 

 

 

 

 

 

(17,843)

 

     (17,843)

Stock Trades:

Action: Buy/Sell

 No. Shares 

 Price 

 

 

 

 

 

 

Stock Trade

Sell

1,000

17.84

 

 

 

17,840

 

 

 

 

 

 

 

 

 

17,840

 

 

 Days to expiry:

 184

 

 

 

 

Totals:

(3)

 

(3)

Remember, when long options time is your friend and when short options time is your enemy. We're long, so we want as much of our friends as we can afford to buy (yeah, that's right - some of us still have to buy friendship!)

Analysis Days from Time Percent
date deal date left expired
11-Mar-09 0 -184 0%
26-Apr-09 46 -138 25%
11-Jun-09 92 -92 50%
27-Jul-09 138 -46 75%
01-Sep-09 174 -10 95%
11-Sep-09 184 0 100%
       
  Underlying asset price: 17.84

 

If the REIT in question falls below $14.54, we profit from the trade. If it ends up above that number by option expiry, we lose. You guys have read the report (btw, a full forensic analysis is coming out in about a week), so you tell me how this trade looks on paper (or computer screen).

Breakeven analysis if close at 11-Sep-09
Analysis date: Expected return:  
 
Risk fr rate 0.75%
  Risk prem. 5.00%
  Exp return 5.75%
B/E point P or L Probability
Below 14.54 Profit 42.2%
Above 14.54 Loss 57.8%

Here's the P&L Matrix, with a scenario analysis for a drop in volatility. Phirang mentioned that you can still lose money while being on the right side of a trade if volatility falls as you are a buyer of volatility. Theoretically, that is true, but we are swinging for home runs and grand slams at the BoomBust. We are not looking for 4% or 10% moves, we are looking for distressed and bankruptcy candidates. At the very least, we are looking for impaired business models that are good for 25% on the downside in the case of bearish research. With that thought in mind, the intrinsic value of the option, that portion that is mostly derived from the price movement of the underlying is what I personally focus on as I use options to achieve my goals as an investor.

U/L price: 7.90 10.30 12.70 15.10 17.50 19.90 22.30 24.70 27.10
Profit/loss - original strategy (base case)
11-Mar-09 44,920 31,528 19,669 9,545 1,068 -5,995 -11,917 -16,951 -21,311
26-Apr-09 44,780 30,890 18,390 7,711 -1,108 -8,288 -14,150 -19,009 -23,136
11-Jun-09 42,686 28,412 15,323 4,151 -4,857 -11,904 -17,409 -21,809 -25,465
27-Jul-09 42,723 28,053 13,908 1,436 -8,349 -15,383 -20,336 -24,009 -26,998
01-Sep-09 42,790 28,061 13,335 -1,117 -12,886 -19,307 -22,543 -25,034 -27,440
11-Sep-09 40,737 26,009 11,280 -3,449 -18,178 -20,578 -22,978 -25,378 -27,778
Profit/loss - with volatility adjustment
11-Mar-09 44,807 31,194 19,066 8,716 102 -7,009 -12,908 -17,872 -22,138
26-Apr-09 44,725 30,666 17,916 7,008 -1,950 -9,167 -14,986 -19,755 -23,772
11-Jun-09 42,666 28,280 14,973 3,576 -5,559 -12,612 -18,038 -22,320 -25,855
27-Jul-09 42,722 28,030 13,762 1,076 -8,848 -15,860 -20,692 -24,233 -27,123
01-Sep-09 42,790 28,061 13,333 -1,184 -13,117 -19,457 -22,575 -25,037 -27,440
11-Sep-09 40,737 26,009 11,280 -3,449 -18,178 -20,578 -22,978 -25,378 -27,778
Change in profit/loss - (-4%) change in volatility impact if you close positions before expiry
11-Mar-09 -113 -334 -603 -829 -967 -1,014 -991 -921 -826
26-Apr-09 -55 -224 -474 -703 -842 -879 -836 -746 -635
11-Jun-09 -21 -132 -350 -575 -702 -708 -629 -511 -390
27-Jul-09 -1 -23 -146 -360 -499 -478 -356 -224 -124
01-Sep-09 0 0 -1 -67 -231 -150 -32 -3 0
11-Sep-09                  

As you can see, you do lose money as holder of volatility when volatility drops, but when we get those Goldman (Reggie Middleton on Risk, Reward and Reputations on the Street: the Goldman Sachs Forensic Analysis), PNC and the Doo Doo 32 (The Doo Doo 32 : the gift that keeps on Giving!), GGP (GGP and the type of investigative analysis you will not get from your brokerage house),  Bear Stearns (Is this the Breaking of the Bear?) moments, you will hardly even notice. These 60 to 120 point moves can prove extremely profitable through a leveraged trade such as this. Trust me! Some time in the future, either as part of a pro report or in these open forums (depending on the comments and feedback), I will detail the costs of hedging a trade such as this.

Since the returns are so leveraged, the numbers in the financial analysis are EXTREME! 

Financial Analysis
       
Net initial (debit) or credit                (3)
       
Static return (spot unchanged)  
Profit (loss)          (18,518)
Return for period   -643,058%
Annualized ROI   -63%
Maximum profit    
Scope     Capped 
Maximum profit         89,220
Return for period   3,098,272%
Annualized ROI   --   
Maximum loss      
Scope     Unlimited 
Maximum loss    
Return for period    
Annualized ROI    
Target return      
Target underlying price           12.70
Profit (loss)           11,280
Return for period   391,704%
Annualized ROI   --