Tuesday, September 18, 2012

Shorting the underlying or puts

I think I've mentioned on here before that I've been frustrated with how little I can learn from reading about shorting.  There's some on general approaches, philosophies, and targeting, but very little on the part I find hardest - the mechanics.  The mechanics aren't too hard on the long side, particularly if (like me) you aren't too interested in margin.  But shorting you have:

a) position sizing considering the potential downside;
b) position sizing considering the effect of a move in the underlying (your position gets bigger when it moves against you and vice versa)
c) share borrowing & squeezes;
d) significantly different tax treatment and strategies

C is my biggest concern.  Right now I'm short FMCN.  In general I have a bias for shorting the underlying over puts; generally people cite the cost of options for this approach, but for me the bigger factor is I think I'm < average at both timing and technical factors; even if I could correctly identify a trigger, I can't tell if enough shorts are waiting for the same trigger.

FMCN is different though, because of the wide disparity in potential outcomes.  I shorted the underlying for about a 6% potential loss at the deal price and spent 6% of my portfolio on puts.  I had hoped the price would stabilize, driving the price of options down (lower historical vol, lower implied vol in the pricing) so I could buy up to 30% of my portfolio on puts depending on the prices (this is much higher than a normal position size btw; the risk return relationship was the best I've ever seen, and 30% would be if it got even better.  30% of my portfolio is roughly my savings last year).  

Unfortunately the price has not been all that stable; the options I bought are already 44% and 67% more expensive.  And my short position was called in today (no shares available in HK either).  I shouldn't have underestimated the focus on this one.  I thought because I bought in several days after it was announced the bigger moves would already have been made, but volume jumped today. 

Was hoping to clarify to myself if I should replace my short position with puts but about to nod off without an answer...