Binary Options Trading Course - Investopedia Academy
Everything You Always Wanted To Know About Swaps* (*But Were Afraid To Ask)
Hello, dummies It's your old pal, Fuzzy. As I'm sure you've all noticed, a lot of the stuff that gets posted here is - to put it delicately - fucking ridiculous. More backwards-ass shit gets posted to wallstreetbets than you'd see on a Westboro Baptist community message board. I mean, I had a look at the daily thread yesterday and..... yeesh. I know, I know. We all make like the divine Laura Dern circa 1992 on the daily and stick our hands deep into this steaming heap of shit to find the nuggets of valuable and/or hilarious information within (thanks for reading, BTW). I agree. I love it just the way it is too. That's what makes WSB great. What I'm getting at is that a lot of the stuff that gets posted here - notwithstanding it being funny or interesting - is just... wrong. Like, fucking your cousin wrong. And to be clear, I mean the fucking your *first* cousin kinda wrong, before my Southerners in the back get all het up (simmer down, Billy Ray - I know Mabel's twice removed on your grand-sister's side). Truly, I try to let it slide. Idomybit to try and put you on the right path. Most of the time, I sleep easy no matter how badly I've seen someone explain what a bank liquidity crisis is. But out of all of those tens of thousands of misguided, autistic attempts at understanding the world of high finance, one thing gets so consistently - so *emphatically* - fucked up and misunderstood by you retards that last night I felt obligated at the end of a long work day to pull together this edition of Finance with Fuzzy just for you. It's so serious I'm not even going to make a u/pokimane gag. Have you guessed what it is yet? Here's a clue. It's in the title of the post. That's right, friends. Today in the neighborhood we're going to talk all about hedging in financial markets - spots, swaps, collars, forwards, CDS, synthetic CDOs, all that fun shit. Don't worry; I'm going to explain what all the scary words mean and how they impact your OTM RH positions along the way. We're going to break it down like this. (1) "What's a hedge, Fuzzy?" (2) Common Hedging Strategies and (3) All About ISDAs and Credit Default Swaps. Before we begin. For the nerds and JV traders in the back (and anyone else who needs to hear this up front) - I am simplifying these descriptions for the purposes of this post. I am also obviously not going to try and cover every exotic form of hedge under the sun or give a detailed summation of what caused the financial crisis. If you are interested in something specific ask a question, but don't try and impress me with your Investopedia skills or technical points I didn't cover; I will just be forced to flex my years of IRL experience on you in the comments and you'll look like a big dummy. TL;DR? Fuck you. There is no TL;DR. You've come this far already. What's a few more paragraphs? Put down the Cheetos and try to concentrate for the next 5-7 minutes. You'll learn something, and I promise I'll be gentle. Ready? Let's get started. 1.The Tao of Risk: Hedging as a Way of Life The simplest way to characterize what a hedge 'is' is to imagine every action having a binary outcome. One is bad, one is good. Red lines, green lines; uppie, downie. With me so far? Good. A 'hedge' is simply the employment of a strategy to mitigate the effect of your action having the wrong binary outcome. You wanted X, but you got Z! Frowny face. A hedge strategy introduces a third outcome. If you hedged against the possibility of Z happening, then you can wind up with Y instead. Not as good as X, but not as bad as Z. The technical definition I like to give my idiot juniors is as follows: Utilization of a defensive strategy to mitigate risk, at a fraction of the cost to capital of the risk itself. Congratulations. You just finished Hedging 101. "But Fuzzy, that's easy! I just sold a naked call against my 95% OTM put! I'm adequately hedged!". Spoiler alert: you're not (although good work on executing a collar, which I describe below). What I'm talking about here is what would be referred to as a 'perfect hedge'; a binary outcome where downside is totally mitigated by a risk management strategy. That's not how it works IRL. Pay attention; this is the tricky part. You can't take a single position and conclude that you're adequately hedged because risks are fluid, not static. So you need to constantly adjust your position in order to maximize the value of the hedge and insure your position. You also need to consider exposure to more than one category of risk. There are micro (specific exposure) risks, and macro (trend exposure) risks, and both need to factor into the hedge calculus. That's why, in the real world, the value of hedging depends entirely on the design of the hedging strategy itself. Here, when we say "value" of the hedge, we're not talking about cash money - we're talking about the intrinsic value of the hedge relative to the the risk profile of your underlying exposure. To achieve this, people hedge dynamically. In wallstreetbets terms, this means that as the value of your position changes, you need to change your hedges too. The idea is to efficiently and continuously distribute and rebalance risk across different states and periods, taking value from states in which the marginal cost of the hedge is low and putting it back into states where marginal cost of the hedge is high, until the shadow value of your underlying exposure is equalized across your positions. The punchline, I guess, is that one static position is a hedge in the same way that the finger paintings you make for your wife's boyfriend are art - it's technically correct, but you're only playing yourself by believing it. Anyway. Obviously doing this as a small potatoes trader is hard but it's worth taking into account. Enough basic shit. So how does this work in markets? 2. A Hedging Taxonomy The best place to start here is a practical question. What does a business need to hedge against? Think about the specific risk that an individual business faces. These are legion, so I'm just going to list a few of the key ones that apply to most corporates. (1) You have commodity risk for the shit you buy or the shit you use. (2) You have currency risk for the money you borrow. (3) You have rate risk on the debt you carry. (4) You have offtake risk for the shit you sell. Complicated, right? To help address the many and varied ways that shit can go wrong in a sophisticated market, smart operators like yours truly have devised a whole bundle of different instruments which can help you manage the risk. I might write about some of the more complicated ones in a later post if people are interested (CDO/CLOs, strip/stack hedges and bond swaps with option toggles come to mind) but let's stick to the basics for now. (i) Swaps A swap is one of the most common forms of hedge instrument, and they're used by pretty much everyone that can afford them. The language is complicated but the concept isn't, so pay attention and you'll be fine. This is the most important part of this section so it'll be the longest one. Swaps are derivative contracts with two counterparties (before you ask, you can't trade 'em on an exchange - they're OTC instruments only). They're used to exchange one cash flow for another cash flow of equal expected value; doing this allows you to take speculative positions on certain financial prices or to alter the cash flows of existing assets or liabilities within a business. "Wait, Fuzz; slow down! What do you mean sets of cash flows?". Fear not, little autist. Ol' Fuzz has you covered. The cash flows I'm talking about are referred to in swap-land as 'legs'. One leg is fixed - a set payment that's the same every time it gets paid - and the other is variable - it fluctuates (typically indexed off the price of the underlying risk that you are speculating on / protecting against). You set it up at the start so that they're notionally equal and the two legs net off; so at open, the swap is a zero NPV instrument. Here's where the fun starts. If the price that you based the variable leg of the swap on changes, the value of the swap will shift; the party on the wrong side of the move ponies up via the variable payment. It's a zero sum game. I'll give you an example using the most vanilla swap around; an interest rate trade. Here's how it works. You borrow money from a bank, and they charge you a rate of interest. You lock the rate up front, because you're smart like that. But then - quelle surprise! - the rate gets better after you borrow. Now you're bagholding to the tune of, I don't know, 5 bps. Doesn't sound like much but on a billion dollar loan that's a lot of money (a classic example of the kind of 'small, deep hole' that's terrible for profits). Now, if you had a swap contract on the rate before you entered the trade, you're set; if the rate goes down, you get a payment under the swap. If it goes up, whatever payment you're making to the bank is netted off by the fact that you're borrowing at a sub-market rate. Win-win! Or, at least, Lose Less / Lose Less. That's the name of the game in hedging. There are many different kinds of swaps, some of which are pretty exotic; but they're all different variations on the same theme. If your business has exposure to something which fluctuates in price, you trade swaps to hedge against the fluctuation. The valuation of swaps is also super interesting but I guarantee you that 99% of you won't understand it so I'm not going to try and explain it here although I encourage you to google it if you're interested. Because they're OTC, none of them are filed publicly. Someeeeeetimes you see an ISDA (dsicussed below) but the confirms themselves (the individual swaps) are not filed. You can usually read about the hedging strategy in a 10-K, though. For what it's worth, most modern credit agreements ban speculative hedging. Top tip: This is occasionally something worth checking in credit agreements when you invest in businesses that are debt issuers - being able to do this increases the risk profile significantly and is particularly important in times of economic volatility (ctrl+f "non-speculative" in the credit agreement to be sure). (ii) Forwards A forward is a contract made today for the future delivery of an asset at a pre-agreed price. That's it. "But Fuzzy! That sounds just like a futures contract!". I know. Confusing, right? Just like a futures trade, forwards are generally used in commodity or forex land to protect against price fluctuations. The differences between forwards and futures are small but significant. I'm not going to go into super boring detail because I don't think many of you are commodities traders but it is still an important thing to understand even if you're just an RH jockey, so stick with me. Just like swaps, forwards are OTC contracts - they're not publicly traded. This is distinct from futures, which are traded on exchanges (see The Ballad Of Big Dick Vick for some more color on this). In a forward, no money changes hands until the maturity date of the contract when delivery and receipt are carried out; price and quantity are locked in from day 1. As you now know having read about BDV, futures are marked to market daily, and normally people close them out with synthetic settlement using an inverse position. They're also liquid, and that makes them easier to unwind or close out in case shit goes sideways. People use forwards when they absolutely have to get rid of the thing they made (or take delivery of the thing they need). If you're a miner, or a farmer, you use this shit to make sure that at the end of the production cycle, you can get rid of the shit you made (and you won't get fucked by someone taking cash settlement over delivery). If you're a buyer, you use them to guarantee that you'll get whatever the shit is that you'll need at a price agreed in advance. Because they're OTC, you can also exactly tailor them to the requirements of your particular circumstances. These contracts are incredibly byzantine (and there are even crazier synthetic forwards you can see in money markets for the true degenerate fund managers). In my experience, only Texan oilfield magnates, commodities traders, and the weirdo forex crowd fuck with them. I (i) do not own a 10 gallon hat or a novelty size belt buckle (ii) do not wake up in the middle of the night freaking out about the price of pork fat and (iii) love greenbacks too much to care about other countries' monopoly money, so I don't fuck with them. (iii) Collars No, not the kind your wife is encouraging you to wear try out to 'spice things up' in the bedroom during quarantine. Collars are actually the hedging strategy most applicable to WSB. Collars deal with options! Hooray! To execute a basic collar (also called a wrapper by tea-drinking Brits and people from the Antipodes), you buy an out of the money put while simultaneously writing a covered call on the same equity. The put protects your position against price drops and writing the call produces income that offsets the put premium. Doing this limits your tendies (you can only profit up to the strike price of the call) but also writes down your risk. If you screen large volume trades with a VOL/OI of more than 3 or 4x (and they're not bullshit biotech stocks), you can sometimes see these being constructed in real time as hedge funds protect themselves on their shorts. (3) All About ISDAs, CDS and Synthetic CDOs You may have heard about the mythical ISDA. Much like an indenture (discussed in my post on $F), it's a magic legal machine that lets you build swaps via trade confirms with a willing counterparty. They are very complicated legal documents and you need to be a true expert to fuck with them. Fortunately, I am, so I do. They're made of two parts; a Master (which is a form agreement that's always the same) and a Schedule (which amends the Master to include your specific terms). They are also the engine behind just about every major credit crunch of the last 10+ years. First - a brief explainer. An ISDA is a not in and of itself a hedge - it's an umbrella contract that governs the terms of your swaps, which you use to construct your hedge position. You can trade commodities, forex, rates, whatever, all under the same ISDA. Let me explain. Remember when we talked about swaps? Right. So. You can trade swaps on just about anything. In the late 90s and early 2000s, people had the smart idea of using other people's debt and or credit ratings as the variable leg of swap documentation. These are called credit default swaps. I was actually starting out at a bank during this time and, I gotta tell you, the only thing I can compare people's enthusiasm for this shit to was that moment in your early teens when you discover jerking off. Except, unlike your bathroom bound shame sessions to Mom's Sears catalogue, every single person you know felt that way too; and they're all doing it at once. It was a fiscal circlejerk of epic proportions, and the financial crisis was the inevitable bukkake finish. WSB autism is absolutely no comparison for the enthusiasm people had during this time for lighting each other's money on fire. Here's how it works. You pick a company. Any company. Maybe even your own! And then you write a swap. In the swap, you define "Credit Event" with respect to that company's debt as the variable leg . And you write in... whatever you want. A ratings downgrade, default under the docs, failure to meet a leverage ratio or FCCR for a certain testing period... whatever. Now, this started out as a hedge position, just like we discussed above. The purest of intentions, of course. But then people realized - if bad shit happens, you make money. And banks... don't like calling in loans or forcing bankruptcies. Can you smell what the moral hazard is cooking? Enter synthetic CDOs. CDOs are basically pools of asset backed securities that invest in debt (loans or bonds). They've been around for a minute but they got famous in the 2000s because a shitload of them containing subprime mortgage debt went belly up in 2008. This got a lot of publicity because a lot of sad looking rednecks got foreclosed on and were interviewed on CNBC. "OH!", the people cried. "Look at those big bad bankers buying up subprime loans! They caused this!". Wrong answer, America. The debt wasn't the problem. What a lot of people don't realize is that the real meat of the problem was not in regular way CDOs investing in bundles of shit mortgage debts in synthetic CDOs investing in CDS predicated on that debt. They're synthetic because they don't have a stake in the actual underlying debt; just the instruments riding on the coattails. The reason these are so popular (and remain so) is that smart structured attorneys and bankers like your faithful correspondent realized that an even more profitable and efficient way of building high yield products with limited downside was investing in instruments that profit from failure of debt and in instruments that rely on that debt and then hedging that exposure with other CDS instruments in paired trades, and on and on up the chain. The problem with doing this was that everyone wound up exposed to everybody else's books as a result, and when one went tits up, everybody did. Hence, recession, Basel III, etc. Thanks, Obama. Heavy investment in CDS can also have a warping effect on the price of debt (something else that happened during the pre-financial crisis years and is starting to happen again now). This happens in three different ways. (1) Investors who previously were long on the debt hedge their position by selling CDS protection on the underlying, putting downward pressure on the debt price. (2) Investors who previously shorted the debt switch to buying CDS protection because the relatively illiquid debt (partic. when its a bond) trades at a discount below par compared to the CDS. The resulting reduction in short selling puts upward pressure on the bond price. (3) The delta in price and actual value of the debt tempts some investors to become NBTs (neg basis traders) who long the debt and purchase CDS protection. If traders can't take leverage, nothing happens to the price of the debt. If basis traders can take leverage (which is nearly always the case because they're holding a hedged position), they can push up or depress the debt price, goosing swap premiums etc. Anyway. Enough technical details. I could keep going. This is a fascinating topic that is very poorly understood and explained, mainly because the people that caused it all still work on the street and use the same tactics today (it's also terribly taught at business schools because none of the teachers were actually around to see how this played out live). But it relates to the topic of today's lesson, so I thought I'd include it here. Work depending, I'll be back next week with a covenant breakdown. Most upvoted ticker gets the post. *EDIT 1\* In a total blowout, $PLAY won. So it's D&B time next week. Post will drop Monday at market open.
Hi everyone, I've been working on a project for my Bachelor Thesis in Finance with Python for quite a while now and I'd love to have some feedback from you. The project focuses on Option Pricing using the Black Scholes Model for Plain Vanilla and Binary Options. It allows the user to perform a series of tasks like computing and plotting greeks, option payoffs and the implied volatility surface and skew. The script requires Chrome and quite a few modules to properly work, and the code is macOS native, meaning that it may not work on other operating systems (sorry for that). My go-to IDE is PyCharm, but I guess any other IDE will work fine. Here you can find the link to the GitHub repository where the project is located. I will leave also some links to resources about all the theory behind the computations I do in the project for the ones that are not familiar with this topic. Options Theory) Black-Scholes Model Binary Options Greeks) Options Strategies Implied Volatility Volatility Smile (Skew) If you have any question let me know. Thank you!
Regarding CFTC Commissioner Brian Quintenz's remarks on smart contract regulations...
Want to regulate smart contracts? Good luck. If it seems like policymakers are flummoxed by the rise of cryptocurrencies, wait until they get to smart contracts. Just ask Brian Quintenz, commissioner for the US Commodity Futures Trading Commission. At a conference in Dubai this week, Quintenz expressed a sense of awe at the vast unknown that blockchain-based computer programs have created for his agency. The CFTC oversees commodity futures and swaps markets. Since 2015, when the agency designated Bitcoin a commodity, its purview has included markets for cryptocurrency derivatives. Quintenz gave a specific example of a smart contract that falls within the agency’s jurisdiction: a prediction market that lets users bet on the future price of a commodity. The CTFC sees that as a kind of derivative called a binary option, and before a binary option can be listed it must be registered with the CFTC, he said. That seemed like a clear reference to markets that have already appeared on Augur, the Ethereum-based platform that allows users to set up markets for betting on the outcome of future events. (see “This new blockchain-based betting platform could cause Napster-size legal headaches”) In the past, the CFTC has been able to build its regulatory structure around market intermediaries that must register with it. That won’t work in the world of decentralized blockchain networks, Quintenz said. “How can our regulatory apparatus, built to register and oversee intermediaries, adequately police our markets and set standards for a disintermediated market?” Who should be held accountable for an unregistered binary option, for example? In some cases it might be appropriate to prosecute those who developed the smart contract code, Quintenz said. He dismissed the argument that the developers aren’t liable since they have no control over what users do with the protocol they created—which is how Augur’s creators have responded to questions about the potential of illegal activity on their platform. But prosecuting the code’s developers won’t get rid of the code, which runs on a blockchain network. So what should the CFTC do if users keep listing illegal contracts? Quintenz concluded his speech on smart contracts with a Carl Sagan quote that he said he finds poignant: “[W]e live in a society dependent on science and technology, in which hardly anyone knows anything about science and technology.” You can say that again, Commissioner.
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Terminology/Acronyms: www.forexlive.com/ForexJargon - Common terms and acronyms FAQ: I need to exchange money, how do I do it? This isn’t what this sub is for. Your best bet is using your bank or an online exchange service. Be prepared to pay a hefty fee. I have money in one currency and need to exchange it into another sometime in the future, should I wait? Don’t ask us this. We speculate intraday in FX and shouldn’t be relied on to tell you what’s best for you. Exchange the money when you need it. I have an FX account, should I start trading demo or live? This is highly debatable. You should definitely demo trade until you have mastered how to use the trading platform on desktop and mobile. After that it’s up to you. Many think that the psychology of trading live vs demo trading is massively different. So it may pay to learn to trade live. Just be warned that most FX traders lose almost their entire first account so start with a low affordable balance. What’s money management? Money management is a form of risk management and is arguably the most important aspect of your trading when it comes to long term survival. You should always enter trades with a stop loss - the distance of the stop allows you to calculate how large of a percent of your account balance will be lost if your trade stops out. You can run a monte carlo simulation to figure out the risk of having a number of trades go against you in a row to drain your account. The general rule is that you should only risk losing 1-4% of your account per trade entered. More on this here: www.investopedia.com/articles/forex/06/fxmoneymgmt.asp www.swing-trade-stocks.com/money-management.html What about automated trading? Retail FX traders have been known to program “Expert Advisors” (EAs) to automate trading. It’s generally advisable to stay away from that until you’re very experienced. Never buy an EA from a developer because the vast majority of them are scams. What indicators are best? That’s up to you to test and find out. Many in this forum dislike oscillating indicators since they fail to capture the essence of what moves price. With experience you will discover what works best for you. In my experience indicators that are most popular with professional traders are those that provide trading “levels” such as pivot points, fibonacci, moving averages, trendlines, etc. What timeframe should I trade? Price action can vary in different timeframes. In longer term timeframes the price action and fundamentals are much more clear. Unfortunately it would take a very long time to figure out whether or not what you’re doing is successful on longer timeframes. In shorter timeframes you can often tell very quickly if what you’re doing is profitable. Unfortunately there’s a lot more “noise” on these levels which can prove deceptive for those trying to learn. Therefore the best bet is to use a multi-timeframe analysis, working from top-down to come up with trades. Should I trade using fundamental analysis (FA) of technical analysis (TA)? This is a long standing argument in these forums and elsewhere. I’ll settle it here - you should have an understanding of both. Yes there are traders who blindly ignore one of the other but a truly well rounded trader should understand and implement both into the analysis. The market is driven in the longer term through FA. But TA is necessary to give traders a place to enter and exit trades from a psychological risk/reward standpoint. I’ve heard trading Binary Options is an easy way to make money? The general advice is to stay away from binaries. The structure of binary options is so that when you lose the broker wins. This incentive has created a very scammy industry where there are few legitimate binary options brokers. In addition in order to be profitable in binaries you have to win 55-65% of the time. That’s a much higher premium over spot FX. Am I actually exchanging currencies? Yes and no. Your broker handles spot FX is currency pairs. Although they make an exchange at the settlement date they treat your position in your account as a virtual currency pair. Think of it like a contract where you can only buy or sell it as a pair. In this sense you are always long one currency while short another. You are merely speculating that one currency will appreciate or depreciate vs another. Why didn't my order fill? Even if price appears to cross over a line on your chart it does not guarantee a fill. Different charting platforms chart different prices - some chart the bid price, some the ask price and some the midpoint price. To fill a limit order price needs to cross your limit's price plus the spread at the time that it is crossing. If it does not equal or exceed the spread then it will not fill. Be wary that in general spreads are not fixed. So what may fill at one time may not at another.
Herbalife will either survive or die [HLF] - Buying LEAPs
With all the brouhaha surrounding Herbalife, I figured it was time to dig in and see if there's a good risk/reward opportunity with the recent price dive. The biggest asset for HLF in my opinion is not PP&E or anything tangible but the brand itself. It has been around for 30+ years and spends hundreds of millions in advertising its name around the globe. The brand of HLF possesses the earning power. A quick look at the balance sheet reveals total assets of $1.6 Billion; subtracting Net of Goodwill & Intangible ($400 million), we have $1.2 billion of net assets. Liabilities are at $1.25 billion. Which means if the company were to shut down tomorrow, there is nothing left for equity holders. Here is are two conservative scenarios:
The company will be shut down in ALL countries and die tomorrow - in which case Equity has zero value.
Company will weather the storm but stop growing.
We calculate owner's earnings (going by Buffett's definition) for last 12 months: Cash from operations + depreciation - Cap Ex = 516 + 73 - 93 = $496 Million which means owner's earnings of $4.62 per share ($496 million/108 million shares outstanding) For discounted cash flow calculations we assume $4.62 annual owner's earnings per share, an aggressive 14% discount rate and terminal growth rate of 3% (USA's annual inflation rate), we arrive at $43.26 per share intrinsic value. The third possibility is status quo as far as operations are concerned - that company will not only weather the storm but will continue to keep growing at the current 10%+ rates. But I don't like to bet solely on optimistic projections. Again, I see this as a binary play - either the company should exist and will exist because people wrongly confuse it MLM's with Pyramid schemes, or this entire operation is a sham that will be shut down. This reminds me of Jamie Mai and Charlie Ledley's trade from the Big Short where they bought LEAPs (long term call options) on Capital One and got a 20x return. I'm looking at Jan 2014 and Jan 2015 LEAPs. Any thoughts? TL;DR: If you think the company won't die from the face of this earth, I think it might be a very attractive buy at $33. I'm still watching. Disclaimer: This is for educational purposes only. Do your own research and make your own investment decisions. This is not a recommendation to buy or sell. I have no position.
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