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Thread: Renting Shares

  1. #1

    Default Renting Shares

    Anyone know what 'renting shares' means? The concept comes from this 21st Century Academy man, Jamie McIntye.

  2. #2

    Default Re: Renting Shares


    "Renting Shares" is the fancy seminar name for making covered calls, where you own bluechip shares that have Exchange Traded Options (ETOs) traded on the Options market. You can sell call options to open a position using your shares as security (instead of a cash margin), and if they exprie worthless you keep the premium paid to you by the buyer. There are some more in depth explanations on the derivatives chat forum on this site, or you can log onto the ASX website and get them to send some free brochures explaining the options arket in a little more detail.

    Good luck,

    Whether you think you can, or think you can't; you are right.

  3. #3

    Default Re: Renting Shares

    part of an e-mail i recieved from the trading game; which i thought interesting regarding otions trading and get rich seminars..i'd be interested in anyones thoughts on this

    Tate on Trading - Risk and Reward

    In sharp contrast to this, the pay off from high risk ventures can be substantial. For example, the reward for winning a Thursday night Powerball jackpot can be extraordinary. However your chance of winning the major prize is about 1 in 27,489,578. The risk in this sort of venture is that you have virtually no chance of winning. You statistically have more chance of being killed by a bee sting.

    Financial transactions are governed by a simple risk/reward relationship. This relationship states simply - no risk = no reward. There is simply no way around this nexus.

    Many of the ‘get rich' groups predicate their claims on option writing in particular. They usually make two claims. Firstly, that option writing is largely a risk free way of generating income. The figures I have seen quoted claim that you can easily make returns of 5% to 10% per month. You can do this because, supposedly, most options expire worthless. (As a quick reminder, option writers sell options for a set premium and if the trade co-operates, the writer is happy for the options to decrease in value and eventually expire worthless.)

    Secondly they claim that the buy/write strategy enables you to achieve free money by “renting” the shares you already own.

    First things first - most options do not expire worthless. For example, in August 2004 BHP had 58,108 open call positions. Of these 28,817 were exercised. In actual fact, around 55% of all open call positions are exercised. This is a long way from the 90% that many so-called authorities claim.

    This example also has a second component to it relevant to my earlier discussion on risk and reward. When you are writing a naked call, you are taking on an unlimited contingent liability. For example, if you write a naked BHP call for $0.50 and something happens to cause that call to leap to $3.00, you are responsible for the difference. If it goes to $4.00 you are responsible for the difference. If it goes to $5.00 you are still responsible for the difference.

    If you believe that this does not happen, consider the case of all the call writers in WMC Resources Ltd. They would have gone to bed on October 27th 2004, confident in the knowledge that their $5.50 option that they had sold for $0.30 was behaving. When they woke up the next morning, they would have found that their $5.50 strike price had been breached and to exit their position they would have to buy back their $0.30 options at over $2.50! That represents an instant $2.20 loss per share, overnight.

    If you follow the claims of the get-rich-quick gurus, you are being asked to take on an unknown contingent liability with no other quantitative edge, other than a guess that most options expire worthless. This would not allow me to sleep at night.

    Granted with prudent money management and a strong psyche, both of which are very rare in get-rich-quick land, you may be able to lessen the damage of a gradual move against you. But there is nothing you can do about outlier, or extreme, sudden moves. You simply have to wear the damage.

    The second component of option writing that is so favoured is the notion of the returns. I often hear figures of 80% per annum thrown around. To put this into context, if I started with $50,000 and compounded it annually at 80% for 10 years, I would end up with about $17,000,000. Keep this up for 20 years and you run out of zeros on the calculator you nicked from the Bloomberg stall at the last Money Expo.

    The fact that people pay vast sums to hear such drivel defies belief. But then, people do believe in all sorts of unfounded things such as UFO’s, angels, tarot cards, and talking to the dead on national TV - so why not this?

    Onto my next bugbear - the buy/write strategy. A buy/write is pushed as a risk free strategy where you simply buy a share and write call options against it. What could possibly go wrong?

    OK - here is a pop quiz. Which of the following diagrams represents the pay off diagram from a written put, and which one represents a buy/write diagram? (Remember written puts have a potentially unlimited liability).

    Diagram A represents a pay off diagram for both the written put and the buy/write. In terms of risk and reward, both strategies are identical. If you engage in the buy/write then you may as well be engaging in writing naked puts since there is no difference between them. Both the writing of naked options and the constructing of buy/write strategies involve the acceptance of potentially unlimited losses for a limited gain.

    The old saying has never been more apt – “option writers eat like birds and sh*# like elephants”.

    So does writing options have a place? It does, but not within the confines of a get-rich-quick scheme. Such schemes completely lose sight of the risks involved in taking on such liabilities, often with terrible financial consequences for the naive trader. Most volatility-based strategies involve some form of written option but in these instances the mindset is very different as is the acknowledgment of risk.

    Calculate your risk in advance before committing money to the sharemarket. The best traders consider the worst-case scenario, before putting on their trade. They are aware of the relationship between risk and reward and they make their decisions on premeditated logic, rather than the allure of a get-rich-quick scheme.
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    The Barbarian Investor

    Price is What you pay- Value is what you get!

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