Another Long vs Synthetic Long

Options traders love to pitch "synthetic long" positions as replacement for plain old long stock positions.

Their major claim is that synthetics are more "efficient" than stocks, i.e. they require less capital.
Let's examine the validity of this claim. Let's use the S&P ETF SPY, last year's 12/31/2018 closing price and $7 commissions for our example.

Long:
Buy 100 SPY at 249.92 = $24,992 + $7 commission
Cost of long position: $24,999.

Synthetic Long:
Buy 1 28 June 2019 SPY 250 call at 15.11 = $1511 + $7=$1511
Sell 1 28 June 2019 SPY 250 put at 13.69 = -$1369-7=-$1362
Cost of synthetic long position: $149.00.

Wow. Quite a difference but don't be fooled.

Your broker will require much more than $149 for this options trade. And don't be fooled on the long position either, your broker will "generously" require only 30% or so of the cost to hold the long position. These are called "margin requirements" and this is how they add up:

Long Position Margin requirement: 30% of the stock price x number of shares or
$24,999 x .3 = $7499.70

Initial Synthetic Long Margin Requirement: 20% of the stock price x number of shares + put out-of the money amount + price of the put + price of the call or
100*249.92*.2 = 4998.40 + 0 + 1362 + 1511 = $7871.40

Fast forward to today and let's see what happened. As of this writing:

SPY= 294.23
28 June 2019 SPY 250 call = 44.36
28 June 2019 SPY 250 put = 0

Long gain: $4,424 short-term gain + $266.47 dividends = $4690.47
Synthetic Long gain: $2925 long call short-term gain + 1362 short put gain = $4,287
Difference: $403 to the long position.

We are not yet including your long stock margin loan. If you borrowed the full 70% ($17500) and the rate was 8%, the loan interest over the six month holding period would cost roughly $700. At full margin the synthetic would beat the long position by roughly $300.

This is only one example (you can try 100s and get similar results) but there is apparently very little difference between the two. One major difference is that options expire and stocks don't; another major difference is the risk of exercise of the short put-what a pain that becomes. Over the years, both differences add up. Also how valuable is efficiency anyway when there is little difference between the two.

The efficient claim IMHO is meh.

Feel free to post comments.

Disclaimer: Posts are for education only and not investment advice, may be subject to change without notice, and, while prepared with care, may be subject to omissions and errors.