The Introduction of ETF & Equity Options: Hedging and Optimizing Positions

What is an Option? You can think of an option as a contract between two parties that derives its value off of some sort of underlying asset (stock, bond, commodity, ETF) Used for various purposes: Hedging Speculation Investment

Call Contract Put Contract Buyer: Has the right but not the obligation to sell (put) 100 shares of the underlying security at the agreed price. Seller: Obligated to buy 100 shares at the agreed upon price if executed by the buyer. Buyer: Has the right but not the obligation to buy (call) 100 shares of the underlying security at the agreed price. Seller: Obligated to sell 100 shares at the agreed upon price if executed by the buyer.

Option Slang (You Trade Options Bro??) Contract: 100 shares of stock with a specific exercise price and expiration date Premium: The cost to purchase the option (Paid to the option seller) Strike or Exercise Price: Price at which the contract is exercisable. Expiration Date: When the option contract expires. In the money (intrinsic value): For calls, how far the strike price is below the current price of the stock. Out of the money (extrinsic): Everything that goes into pricing an option aside from intrinsic value (time, volatility, interest rates, etc). Option Greeks: Vega, Delta, Theta,; show how an option premium should react to its pricing factors (volatility, stock price, time,, etc).

Options Chain

Examples of Option Strategies for the BHIC Buy put contracts against sector ETF’s or broad market ETF’s. 1 Sell covered calls to generate excess return from the option premium . 2 4 5 3 6 Your Company Name Goes Here

Ex: Sell Covered Call Bought 3000 shares at $14. Current market price is $15.95. Analysts place $16 as the price target. How could we use options to earn excess returns?

Answer Write 30 calls @ 16 strike for $36 per contract. Total Proceeds: $1080 Obligated to sell your entire position if stock closes above $16 sometime before expiration. Best case: stock closes at $15.99 day of expiration, you claim all premium and write another! Worst case: stock jumps “x” percent above strike price and you “miss out” on up side.

Ex: Buy Protective Put Scenario: BHIC portfolio is worth $1.7M and we are concerned about large market correction before the potential rate hike in June. Want to protect portfolio. What’s the move?

Answer Purchase protective put contract. Depending how much downside the analysts of the Blue Hen Investment Club think there is, purchase put contract “x” amount out of the money.

The Gist: Derivatives play a massive role in today’s capital markets, and to be able to effectively use them, will allow BHIC to be more than your typical undergraduate equity fund.

The Process Create BHIC derivatives team: 3-5 analysts who will be able to dedicate a significant amount of time to strategically introducing options to the portfolio Work with sector heads to introduce options strategies accordingly Just as in traditional stock pitches, options purchases/sells (and perhaps executions) will be pitched to the club In the future, make sure to buy stocks in increments of 100.

Any Questions?