ERICOPOLY

There is a chance that you'll see something new today. So far, it's up on divvy cut day. A jeez, you beat me to it, Hardly fair when they are fortuitous enough to cut the day before oil jumps a couple bucks and all energy stocks are popping ;). I believe LTS fell the day after their cut. Just saw that First Energy has a target price of $.50 on LTS, seems a little drastic. But I doesn't seem that stocks are traded on value or fundamentals any more. Just Energy is having a pop along with energy stocks today and they are more of a utility/consumergoods retailer. I posted my comment when oil was down this morning. PWE was up, oil was down. Now oil is up and PWE's rally has fizzled.

There is a chance that you'll see something new today. So far, it's up on divvy cut day.

No. Best I can guess is that if BAC is trading at $17 it is almost certainly a constructive sale if you write a $12 call and purchase a $12 put. But most likely not (in my opinion) if you instead write a $22 call and buy the $12 put. There is all this gray area in between.

I meant that the Kleptocracy discount is priced into Fannie/Freddie. Hinges on the success of the lawsuits in a Government court. We have the government debating permanent seizure of common stock property right here in the USA! So my comment is that the Democrats give you the best of Putin -- they provide you with the opportunity to speculate on the seizure of your common stock without supporting Putin's regime. Lukoil is priced where it is for those two reasons (the other reason being the oil crash). So my joke is that if you pair up a US oil stock with a FNMA common stock, you have a LUKOY. You have depressed oil trade paired with nationalization discount. And underneath, you have a cash flow monster in Fannie Mae.

As for avoiding Russia as a matter of principle... Could you not invest in an oil company in the US and pair it with Fannie and/or Freddie common? This way you are getting the best of Putin (the Democrats) and still playing the oil price casino.

Working weekends/evenings. What a waste of youth.

Sure, it may not be optimal. I find it less stressful.

So don't the russian oil companies incur extraction costs in depreciated local currency and then export the oil where it is priced in USD? It seems like that gives them some sort of relief, or does it?

You should read The Coldest Winter. That will make you feel relatively better.

Yes, the straw (the extrinsic put option value) is cheaper further from at-the-money strike but for good reason: in order for it to become spun into gold, Rumpelstiltskin takes your first born child. Opportunity cost is real.

I could sell the $10 extrinsic value for the relatively larger at-the-money premium and roll it along back to the $12 strike. I therefore have benefitted from changes in extrinsic value even if I gained no intrinsic value.

Yes. That's fair. In March 2013 I sold all of my warrants when the stock was at $12 and I switched over to leveraged common with puts. My puts were January 2014 expiry, so my situation is exactly what I've been arguing -- a big price swing would be a chance to roll cheaply to a longer term. So I passed on the 2015 options and went with the 2014 instead.

The GM warrants didn't and still don't carry much premium. Mohnish therefore wasn't taking on MTM risk with the premiums. Most of the leverage cost with the GM warrants comes from the missing dividends. That get paid over time as the dividends are missed, not upfront as a premium. The point Mohnish made about those warrants was that there was hardly any premium.

That's how I look at it. And I'm not like Buffett who goes around saying he can make 50% a year. I believe very firmly that I can't and I don't really know how the hell this happened. I believe Buffett could, but I'm no Buffett. Here's a bumper sticker for you: When fortune smiles on you, put a ring on it's finger.

What was your thinking behind closing your IWM short earlier in the year and how much to hedge the market in general? Just emotions. I don't really want to be in this game anymore and I can't sell what I own because if taxes. So I am hedging. I take it you all recognize that I liquidated my RothIRA early this year and turned it over to outside management. It was up roughly 70% annualized over the prior 11 years. Here is a clip that summarizes how I feel about how those 11 years came to pass: And early this year I hit the 5:45 minute mark of that clip. And just like that, my running days was over.

This is covered well by my "cost of leverage" mental modeling of the extrinsic option value. I think of it as pre-paid interest for non-recourse leverage because I don't intend to exit the trade before the option expires. And interest payments on leverage are 100% losses, right? Yes, you watch it vaporize quickly MTM, but this is money that already is mentally banked as a 100% loss. So if I'm putting together a plan to leverage up on BAC stock non-recourse and hold it for years until it fully plays out, then I know that those extrinsic option premiums are 100% losses. Just like when Fairfax took on debt to buy ORH, their interest payments are 100% losses. They are the "cost" of the leverage. I'm not in the game to profit from spikes in extrinsic option value. I'm in the game to profit from spikes in the stock price that exceed the cost of leverage over a period of many years. So if the extrinsic value gets slammed by a near term stock price plunge, I can use that as an opportunity to extend the term of my options while the extrinsic value is cheap and on sale. In the long run, this increases my profits because it reduces the average cost paid for my leverage.

It is simple. So you just max out right away - and basically pay the most extrinsic value possible at a given maturity of put options you are looking at. This is counterintuitive as it leads to high initial financing costs. Then, any movement in the stock price necessarily helps you refinance cheaper when you roll because you already picked the most expensive spot on the spectrum. Borrowing, and buying at-the-money puts in a taxable account is the same as buying an at-the-money call in a non-taxable account. And in both cases, if the stock moves down, you have lost on a mark-to-market in terms of your portfolio. But I guess you are cheering because your extrinsic financing cost on a go-forward basis declines. So your portfolio is down but you are cheering. I guess the question is do you get sad when the stock moves back up to the initial strike price? Probably not. Even though that is inconsistent, you probably don't get too sad because your portfolio is close to break-even at that point (less margin financing costs including time value erosion on the put), and you have hope the stock price moves up past the strike price in short order (before you have to roll again). So coming back to the cheering part, I guess what you mean is that when the portfolio value is down (because the stock price went down), you find comfort in the idea that the put costs you less extrinsic cost as you roll. So basically your portfolio down at present (ie stock down, margin interest paid, put price up but not as much as the stock price is down), but you kinda mentally present value the cost savings on a go-forward of your cheaper go-forward all in financing. And this mentally helps you cope with your portfolio being down at present. I think "cheering" is probably the investing equivalent of gallows humor... okay, yes I root for a higher stock price of course like everyone else. What I meant is that it's a better outcome than having to roll-at-the-money where the extrinsic value would be relatively higher. And if the stock goes low enough I can roll to a lower strike without increasing my average cost of financing. Like let's say the stock drops to $7, I'm pretty sure I could roll my initial $12 strike put down to the $10 strike, or $9 strike without the per-annum financing costing me any more than it did in the first place when the stock began at $12. So to me, instead of a stock being flat it works out far better to first have the stock drop by a lot if I started out being hedged with an at-the-money put. Psychologically though, I'd rather skip that drama and have the stock go up rapidly instead. So let's be clear, this is your perception of the situation, right? - as there can be no instance where the stock price drops and you are better off. And I don't mean this in a negative way, because having a mental framework that helps perceive losses more positively when dealing with leverage and options can be helpful in practice. Compare A to B (both of them 3 month period with $12 strike at-the-money put): A: stock trades flat at $12 for 3 months B: stock drops to $7 after 1st month, I then roll to longer duration $10 strike put, and then stock goes back to $12 Although stressful, I'm better off under scenario B. I now have $2 gap between stock and strike under scenario B, and in exchange I only had to buy one more year's worth of extrinsic value when I rolled. And the extra year of extrinsic value was relatively cheap because the $10 strike was far above the $7 stock price at the time. That big gap between $7 and $10 protects me from the implied volatility spike. It should also compensate for the added cost in extrinsic premium that needs to be paid in rolling the existing portion of the term -- if not, then roll only a portion of them to the $10 strike and roll the rest at $12 strike. The $7 stock price is so far from $12 that significant saving is to be realized in rolling $12 strike extrinsic premiums to longer terms. That savings can be used to afford a lower $10 strike for some if not all of them is my point. Plus, going forward into future years I will be able to roll the $10 put along in scenario B. That will be cheaper than rolling along the $12 put from scenario A.

It is simple. So you just max out right away - and basically pay the most extrinsic value possible at a given maturity of put options you are looking at. This is counterintuitive as it leads to high initial financing costs. Then, any movement in the stock price necessarily helps you refinance cheaper when you roll because you already picked the most expensive spot on the spectrum. Borrowing, and buying at-the-money puts in a taxable account is the same as buying an at-the-money call in a non-taxable account. And in both cases, if the stock moves down, you have lost on a mark-to-market in terms of your portfolio. But I guess you are cheering because your extrinsic financing cost on a go-forward basis declines. So your portfolio is down but you are cheering. I guess the question is do you get sad when the stock moves back up to the initial strike price? Probably not. Even though that is inconsistent, you probably don't get too sad because your portfolio is close to break-even at that point (less margin financing costs including time value erosion on the put), and you have hope the stock price moves up past the strike price in short order (before you have to roll again). So coming back to the cheering part, I guess what you mean is that when the portfolio value is down (because the stock price went down), you find comfort in the idea that the put costs you less extrinsic cost as you roll. So basically your portfolio down at present (ie stock down, margin interest paid, put price up but not as much as the stock price is down), but you kinda mentally present value the cost savings on a go-forward of your cheaper go-forward all in financing. And this mentally helps you cope with your portfolio being down at present. I think "cheering" is probably the investing equivalent of gallows humor... okay, yes I root for a higher stock price of course like everyone else. What I meant is that it's a better outcome than having to roll-at-the-money where the extrinsic value would be relatively higher. And if the stock goes low enough I can roll to a lower strike without increasing my average cost of financing. Like let's say the stock drops to $7, I'm pretty sure I could roll my initial $12 strike put down to the $10 strike, or $9 strike without the per-annum financing costing me any more than it did in the first place when the stock began at $12. So to me, instead of a stock being flat it works out far better to first have the stock drop by a lot if I started out being hedged with an at-the-money put. Psychologically though, I'd rather skip that drama and have the stock go up rapidly instead.

Is there any limit you place on how much portfolio margin you're comfortable using while hedging puts? I know your recent examples of used the same leverage as the warrants, but you could use more. Thanks. It's limited by how much I care to lose if the puts expire worthless. So if you wanted to go 5x leveraged, they'll let you do it. I think the margin equity limit is only 15% or something. But the cost of the non-recourse leverage will quite possibly wipe you out. I think 1.5x is a comfortable level.

Wouldn't text book say this is exactly equivalent to buying call? I'm not sure what margin rate your broker charge you, but isn't this how text book explain "put-call parity"? Correct. Unfortunately our idiotic tax code treats rolling our profitable calls as a taxable event. But rolling a devalued put is not taxable.

Ive seen this as a theory in plenty of articles that discuss the Saudi strategy. http://www.forbes.com/sites/melikkaylan/2014/10/17/putin-erdogan-saudi-arabia-the-balance-of-power-is-shifting/ http://thinkprogress.org/climate/2014/11/25/3596403/russia-oil-prices-sanctions-140-billion/ http://www.chicagotribune.com/news/opinion/commentary/ct-saudi-oil-prices-putin-iran-conspiracy-perspec-1121-jm-20141120-story.html Ah, thanks. I like more variety than just the version about trying to kill US high-cost production.

I read that Reagan conspired with the Saudis to push down the price of oil in the 1980s. This was motivated by the desire to inflict pain on the Soviet Union. So far I'm surprised that I haven't seen at least one conspiracy theorist suggest that this time Obama asked the Saudis to hold production in order to put the screws on Putin.

I don't always continue at $12. I roll to higher strikes as the stock rises. But of course that's entirely at my discretion. It eliminates the tail risk that the warrants carry. It's a bit like a "cash out" refinance (using a non-recourse loan) to borrow an analogy from real estate. The increase in strike allows me access to a non-recourse loan for funding my lifestyle. So I don't have to sell my stock to enjoy my gains (no taxes). People do that kind of thing all the time in real estate -- cash-out refinancing isn't a taxable event.

I stopped buying calls. Now I use portfolio margin to buy leveraged common and I protect it with at-the-money puts. So I borrow on margin, but the at-the-money puts make margin borrowing fully non-recourse. My mindset is it keeps my maximum losses from leverage at the cost of my financing. It costs a bit more extrinsic value, but it simplifies my thinking about the cost. I know exactly what I am risking and I don't have to predict stock price movements. Nobody is forcing me to roll these things if the stock hasn't budged -- there is a static maximum cost. And any stock movement (be it up or down) is a friend of my leverage. Rick Guerin eat your heart out. Deeply undervalued stocks tend not to flatline very long -- so while flatlining is a risk, let's not let our fears get too out of hand is my opinion. There is nothing all that risky about the way you did things, I just want less to think about and I want to cheer when the stock drops.

I will use an example of extremely high record breaking implied volatility. Before the financial crisis, an at-the-money $30 strike WFC put cost about $3. At the height of the panic in March 2009, the at-the-money $8 strike option had an extrinsic value of roughly $3. And while that was happening, the extrinsic value of the $30 strike option was FAR LESS than $3. Skewness was WAY MORE dominant than implied volatility. The price of straw is pushed down by the weight of the first born child. When the stock was at $8, the first-born-child weighed $22 for that $30 strike option. That's a weighty child!!!