I’m trying to understand why synthetic stock (sell a put, buy a call at same strike price and same date) is done at the money (ATM). Often that results in a debit for LEAP. Why not choose a strike price out of money (OTM) so debit and credit is the same, so you don’t pay anything up front.
It seems no matter the strike price chosen, the brake even price is always the same. So why open at the money and pay a debit?
Posted by asifquyyum
3 Comments
ATM can mean many things:
– ATMS (at the money spot)
– ATMF (at the money forward)
– ATM DNS (ATM delta neutral straddle)
https://quant.stackexchange.com/a/75239/54838 shows charts, math and computer code that it’s really a forward positions as opposed to a spot position.
Also, bear in mind that most equity options are American. The risk of early exercise does not make your position a perfect synthetic position.
Because the money earns interest. The option pricing models readjust premiums so that the call will be higher than the put when interest can be earned.
Someone buying the stock with capital won’t access the interest, so the market wants both participants to have the same financial outcome.
You should be able to place the synthetic anywhere and get the same return. If you move OTM, you will collect a credit, but your broker will add to your margin requirement. You might be able to make it slightly cheaper by looking at more liquid strikes which would be nearer to the money.