On
Re: On Leverage
LEAPs are any option with a time frame of longer than 9 months. IIRC, Warren Buffet wrote some custom overthecounter S&P options with a life of 10 year. Options that expire on January 1st for the next 2 to 3 calendar years are more commonalty traded on the exchange.grayfox wrote: ↑Thu Mar 14, 2019 6:33 amThe only problem is, I don't really understand how LEAPS work. I just know that they are some kind of call option. And how long? Can you get them for 10 or 20 years? ... What I don't get is how is buying options the same as borrowing money to buy stocks? I don't see how this two things are equated. Buying LEAPS sounds more like options trading than leveraging stocks. And which options do you buy? outofthemoney, inthemoney? It seems like it would be a very complicated analysis.
When you are buying a option you are really paying for time and volatility. Time being at the risk free rate. So what you do is buy some long dated out of the money options. If the market goes up it pays off big. If the market goes down you lose your premium. It is not a perfect replication of a leverage model and modeling its behavior is harder, and backtesting is statistically worthless. But it is in the same ballpark as a leverage portfolio.
Former brokerage operations & mutual fund accountant. I hate risk, which is why I study and embrace it.
Re: On Leverage
What is usually suggested is to not try to play the option gambling game and buy options (LEAPS) that are DEEP in the money. So, for example, the SPDR S&P 500 ETF is at around 280 right now. If you wanted about 2 to 1 leverage you would buy an option with strike price of around 140.alex_686 wrote: ↑Thu Mar 14, 2019 10:12 amLEAPs are any option with a time frame of longer than 9 months. IIRC, Warren Buffet wrote some custom overthecounter S&P options with a life of 10 year. Options that expire on January 1st for the next 2 to 3 calendar years are more commonalty traded on the exchange.grayfox wrote: ↑Thu Mar 14, 2019 6:33 amThe only problem is, I don't really understand how LEAPS work. I just know that they are some kind of call option. And how long? Can you get them for 10 or 20 years? ... What I don't get is how is buying options the same as borrowing money to buy stocks? I don't see how this two things are equated. Buying LEAPS sounds more like options trading than leveraging stocks. And which options do you buy? outofthemoney, inthemoney? It seems like it would be a very complicated analysis.
When you are buying a option you are really paying for time and volatility. Time being at the risk free rate. So what you do is buy some long dated out of the money options. If the market goes up it pays off big. If the market goes down you lose your premium. It is not a perfect replication of a leverage model and modeling its behavior is harder, and backtesting is statistically worthless. But it is in the same ballpark as a leverage portfolio.
Re: On Leverage
Eh  Maybe. There are valid arguments to make for out of the money, at the money, or in the money. All should increase the Beta's of one portfolio. The problem with deep in the money is that they are expensive. They require a higher upfront outlay of capital. They have a higher bidask spread. And then there is the volatility smile. On the plus side their Delta and Gamma values are closer to leveraging a portfolio with margin. I would probably go something closer to at the money or slightly out of the money  but that almost deserves a whole new topic.pezblanco wrote: ↑Thu Mar 14, 2019 11:19 amWhat is usually suggested is to not try to play the option gambling game and buy options (LEAPS) that are DEEP in the money. So, for example, the SPDR S&P 500 ETF is at around 280 right now. If you wanted about 2 to 1 leverage you would buy an option with strike price of around 140.
Former brokerage operations & mutual fund accountant. I hate risk, which is why I study and embrace it.
Re: On Leverage
Alex, there is no question you know more about options and trading options than I do.alex_686 wrote: ↑Thu Mar 14, 2019 11:40 amEh  Maybe. There are valid arguments to make for out of the money, at the money, or in the money. All should increase the Beta's of one portfolio. The problem with deep in the money is that they are expensive. They require a higher upfront outlay of capital. They have a higher bidask spread. And then there is the volatility smile. On the plus side their Delta and Gamma values are closer to leveraging a portfolio with margin. I would probably go something closer to at the money or slightly out of the money  but that almost deserves a whole new topic.pezblanco wrote: ↑Thu Mar 14, 2019 11:19 amWhat is usually suggested is to not try to play the option gambling game and buy options (LEAPS) that are DEEP in the money. So, for example, the SPDR S&P 500 ETF is at around 280 right now. If you wanted about 2 to 1 leverage you would buy an option with strike price of around 140.
I just did a quick calculation on borrowing costs of the Jan 15, 2021 LEAP: Using Yahoo Finance and the SPDR Option Chain Data.
For the 140 Strike, the implied borrowing cost on the last trade made is 3.9%
For the 280 Strike, the implied borrowing cost on the last trade made is 7.5%
You paying for and getting something extra with the 280 strike price ... most obviously you're getting lots of downside protection. That has to be paid for.
Re: On Leverage
Can you walk me through you calculations? What you are saying does not square with the more formal models that I have been trained  like BlackScholes or the Binomial Model. I will tell you what my guess is. I don't think it is any type of downside protection.
For the $140 strike you are getting more or less the timevalue of the stock  just like leverage. So it is basically the risk free rate. It is a little bit dirty because of the bid/ask spreads and delays between various pricing services.
The $280 is evenly split between the timevalue of the stock and the cost of volatility. The $140 is going to have a more or less symmetric pay off like a leverage portfolio. The $280 is either going to lose it all (all of the premium) or is going to be a massive payoff.
Former brokerage operations & mutual fund accountant. I hate risk, which is why I study and embrace it.

 Posts: 771
 Joined: Wed Jul 12, 2017 2:51 pm
Re: On Leverage
Putcall parity is the math for this. Long call + short put = timediscounted future price above the strike price. For very rough analysis you can ignore time discounting and dividends and just use "underlying price  strike price" on the right hand side and have a model that's good enough for general decisionmaking but not arbitrage.alex_686 wrote: ↑Thu Mar 14, 2019 3:20 pmCan you walk me through you calculations? What you are saying does not square with the more formal models that I have been trained  like BlackScholes or the Binomial Model. I will tell you what my guess is. I don't think it is any type of downside protection.
For the $140 strike you are getting more or less the timevalue of the stock  just like leverage. So it is basically the risk free rate. It is a little bit dirty because of the bid/ask spreads and delays between various pricing services.
The $280 is evenly split between the timevalue of the stock and the cost of volatility. The $140 is going to have a more or less symmetric pay off like a leverage portfolio. The $280 is either going to lose it all (all of the premium) or is going to be a massive payoff.
So the "downside protection" is from neglecting to sell the put option at the same strike and expiration when you go from the underlying to the call option + cash. At the $280 strike, the value of the put option that you're implicitly buying (via not selling it) is significant. At the $140 strike, it's minimal.
Of course, if you're going synthetic long via options, you could always get the exact same effect out of just taking out a futures contract instead. And because of the arbitrage math of putcall parity, you effectively are, you're just paying a marketmaking arbitrageur for the privilege of having it as a long option instead of a futures contract.
Current portfolio: 60% VTI / 40% VXUS
Re: On Leverage
Lets take a look at the Jan 15, 2021 SPDR LEAP with strike 140.
Data on last trade:
Date of Last Trade: 2/26/2019
Option Price of Last Trade: 139.36
Index value on that date: High 280.3 Low 278.9 %I just take the average of these = (279.6)
Implied Amount Borrowed (iab): IndexValue  OptionPrice: 140.24
Last Quarterly Value of Spyder dividend: 1.419
Days till Expiration (de): 689
Foregone dividends: There are 8 dividend dates in the range ... so 1.419*8 = 11.352 %these dividends should be discounted back to the present day using the inflation rate but that just changes things a few cents.
Transaction Costs per share: .0630 %You can buy a contract for $3.15 so for roundtrip and per share,
You buy the option and say immediately exercise it. How much do you end up with? You get (Index  Strike)  OptionPrice. This is usually a negative number. So that is an extra implied payment. So in this case, the extra implied payment is: .24 (it turns out negative this time!). I think this comes about from me not knowing the exact index value at the purchase time?
Total Implied Payment (tip): 11.352 + .0630 + (.24) = 11.175
Thus, the interest rate in percent is given by the formula:
interest rate =100*((exp((365/de)*(log((tip+iab)/iab))))  1) = 4.145
(I should add, this is basically the method used in Ayres & Nalebuff to do this calculation ... i.e. it's not my own invention)
Data on last trade:
Date of Last Trade: 2/26/2019
Option Price of Last Trade: 139.36
Index value on that date: High 280.3 Low 278.9 %I just take the average of these = (279.6)
Implied Amount Borrowed (iab): IndexValue  OptionPrice: 140.24
Last Quarterly Value of Spyder dividend: 1.419
Days till Expiration (de): 689
Foregone dividends: There are 8 dividend dates in the range ... so 1.419*8 = 11.352 %these dividends should be discounted back to the present day using the inflation rate but that just changes things a few cents.
Transaction Costs per share: .0630 %You can buy a contract for $3.15 so for roundtrip and per share,
You buy the option and say immediately exercise it. How much do you end up with? You get (Index  Strike)  OptionPrice. This is usually a negative number. So that is an extra implied payment. So in this case, the extra implied payment is: .24 (it turns out negative this time!). I think this comes about from me not knowing the exact index value at the purchase time?
Total Implied Payment (tip): 11.352 + .0630 + (.24) = 11.175
Thus, the interest rate in percent is given by the formula:
interest rate =100*((exp((365/de)*(log((tip+iab)/iab))))  1) = 4.145
(I should add, this is basically the method used in Ayres & Nalebuff to do this calculation ... i.e. it's not my own invention)
Re: On Leverage
Thank you! A much more elegant way to explain what I was calling "downside protection"!ThrustVectoring wrote: ↑Thu Mar 14, 2019 3:46 pmPutcall parity is the math for this. Long call + short put = timediscounted future price above the strike price. For very rough analysis you can ignore time discounting and dividends and just use "underlying price  strike price" on the right hand side and have a model that's good enough for general decisionmaking but not arbitrage.alex_686 wrote: ↑Thu Mar 14, 2019 3:20 pmCan you walk me through you calculations? What you are saying does not square with the more formal models that I have been trained  like BlackScholes or the Binomial Model. I will tell you what my guess is. I don't think it is any type of downside protection.
For the $140 strike you are getting more or less the timevalue of the stock  just like leverage. So it is basically the risk free rate. It is a little bit dirty because of the bid/ask spreads and delays between various pricing services.
The $280 is evenly split between the timevalue of the stock and the cost of volatility. The $140 is going to have a more or less symmetric pay off like a leverage portfolio. The $280 is either going to lose it all (all of the premium) or is going to be a massive payoff.
So the "downside protection" is from neglecting to sell the put option at the same strike and expiration when you go from the underlying to the call option + cash. At the $280 strike, the value of the put option that you're implicitly buying (via not selling it) is significant. At the $140 strike, it's minimal.
Of course, if you're going synthetic long via options, you could always get the exact same effect out of just taking out a futures contract instead. And because of the arbitrage math of putcall parity, you effectively are, you're just paying a marketmaking arbitrageur for the privilege of having it as a long option instead of a futures contract.
 Steve Reading
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Re: On Leverage
One small correction. What you "borrow" is the strike price. That's what you'll have to pay in the future but are being allowed to not pay yet even though you have exposure to the full stock price.grayfox wrote: ↑Fri Mar 15, 2019 10:34 amRight this second SPY = 2820.35 x 100 = 28,203.50pezblanco wrote: ↑Thu Mar 14, 2019 11:19 am
What is usually suggested is to not try to play the option gambling game and buy options (LEAPS) that are DEEP in the money. So, for example, the SPDR S&P 500 ETF is at around 280 right now. If you wanted about 2 to 1 leverage you would buy an option with strike price of around 140.
SPY Jun 2019 140.000 call shows
BID 141.33
ASK 141.64
If you bought at ASK, 141.64 x 100 = 14,164.00 + commission (assume no commissions)
So you are "borrowing" 28,203.50  14,164.00 = 14,013.50 ?
What is the interest rate?
This stops trading June 21, 2019 Options Expiration Calendar 2019
If on June 21, SPY ends up exactly where it is today, 2820.35
then you can buy at 14,000 and sell it at 28,203.50 for a difference of 14,203.50 ?
Since you paid 14,164.00, so you made $39.50 profit?
Here is the LEAP: SPY Dec 2021 140.000 call
Bid 140.52
Ask 144.12
Yes, if the stock price stayed asis, you'd appear to make a 39 dollar profit. That's what happens when the ask+strike price are lower than the actual stock price.
You'd have to account for dividends not received. At 1.9% dividend yield annually, that's 535 bucks for the whole year (at a price of 28203). It's only 3 months though so that's a loss of 134 dollars
Subtract 134 from your "gain" of 39, for a total cost of 95 dollars. Paying 95 dollars to borrow 14000 for 3 months annualizes to ~2.7% borrowing rate.
If anyone can confirm this math, that'd be great
"... so high a present discounted value of wealth, it is only prudent for him to put more into common stocks compared to his present tangible wealth, borrowing if necessary"  Paul Samuelson
Re: On Leverage
A couple of points.
If you are interested in going down this route, I would urge you to read up on the formal theory of option pricing. Focus on pricing volatility, such as the VIX. Then focus on the Greeks  delta, gamma, theta, and vega.
Next, ignore dividends. They are just not that germane to your question. You are not buying the dividends, thus including them is like comparing apples to oranges. Also, the interest rate is the risk free rate  both in theory and almost universally true in practice. I understand what you are trying to do here  it is intuitive. It just not a very fruitful line of attack.
Next, to put the putcall parity in the proper context, you need to know the correct / intrinsic price of the put or the call to actually use it for what you are trying to do. Elsewise it is just a arbitrage trade.
If you are interested in going down this route, I would urge you to read up on the formal theory of option pricing. Focus on pricing volatility, such as the VIX. Then focus on the Greeks  delta, gamma, theta, and vega.
Next, ignore dividends. They are just not that germane to your question. You are not buying the dividends, thus including them is like comparing apples to oranges. Also, the interest rate is the risk free rate  both in theory and almost universally true in practice. I understand what you are trying to do here  it is intuitive. It just not a very fruitful line of attack.
Next, to put the putcall parity in the proper context, you need to know the correct / intrinsic price of the put or the call to actually use it for what you are trying to do. Elsewise it is just a arbitrage trade.
Last edited by alex_686 on Fri Mar 15, 2019 11:34 am, edited 1 time in total.
Former brokerage operations & mutual fund accountant. I hate risk, which is why I study and embrace it.
Re: On Leverage
grayfox wrote: ↑Fri Mar 15, 2019 10:34 amRight this second SPY = 2820.35 you mean 282.35 x 100 = 28,203.50pezblanco wrote: ↑Thu Mar 14, 2019 11:19 am
What is usually suggested is to not try to play the option gambling game and buy options (LEAPS) that are DEEP in the money. So, for example, the SPDR S&P 500 ETF is at around 280 right now. If you wanted about 2 to 1 leverage you would buy an option with strike price of around 140.
SPY Jun 2019 140.000 call shows
BID 141.33
ASK 141.64
If you bought at ASK, 141.64 x 100 = 14,164.00 + commission (assume no commissions)
So you are "borrowing" 28,203.50  14,164.00 = 14,013.50 ? yes
What is the interest rate?
OK, so we have to calculate the true cost of borrowing. In this period I count (please check for me) that we miss 9 dividend payments:
So just using 2018 dividend payments on SPY: https://seekingalpha.com/symbol/SPY/dividends/history we get that we lose
$11.6362 of dividends. We lose $.0630 transaction costs per share and the implied extra payment is $.395 (which is again negative!). So total cost of borrowing is $11.3042 per share. The number of days until expiration is 829. So, we know how much we are borrowing and for how long and how much it costs so we can compute the interest rate which is 3.47% in this case.
This stops trading June 21, 2019 Options Expiration Calendar 2019
If on June 21, SPY ends up exactly where it is today, 2820.35
then you can buy at 14,000 and sell it at 28,203.50 for a difference of 14,203.50 ? Yes
Since you paid 14,164.00, so you made $39.50 profit? Yes
That sounds like interest rate was negative. That can't be right. But you tied up 14,164 for 829 days. If you could have gotten say 3% interest on that money, you would have received $983, which you now don't have.
Also, it has been mentioned that you don't receive dividends during that time. You only get the price increase. Correct
Here is the LEAP: SPY Dec 2021 140.000 call
Bid 140.52
Ask 144.12
Much wider spread than for the June 2019!
Re: On Leverage
305pelusa wrote: ↑Fri Mar 15, 2019 10:51 amOne small correction. What you "borrow" is the strike price. That's what you'll have to pay in the future but are being allowed to not pay yet even though you have exposure to the full stock price. According to Ayres and Nalebuff, what you are borrowing is the difference between the current value of underlying and the amount that you have paid (the option price). I understand what you are saying but you are actually borrowing a little more than the strike price. The "borrow costs" are being rolled into the loan is one way to think about it.grayfox wrote: ↑Fri Mar 15, 2019 10:34 amRight this second SPY = 2820.35 x 100 = 28,203.50pezblanco wrote: ↑Thu Mar 14, 2019 11:19 am
What is usually suggested is to not try to play the option gambling game and buy options (LEAPS) that are DEEP in the money. So, for example, the SPDR S&P 500 ETF is at around 280 right now. If you wanted about 2 to 1 leverage you would buy an option with strike price of around 140.
SPY Jun 2019 140.000 call shows
BID 141.33
ASK 141.64
If you bought at ASK, 141.64 x 100 = 14,164.00 + commission (assume no commissions)
So you are "borrowing" 28,203.50  14,164.00 = 14,013.50 ?
What is the interest rate?
This stops trading June 21, 2019 Options Expiration Calendar 2019
If on June 21, SPY ends up exactly where it is today, 2820.35
then you can buy at 14,000 and sell it at 28,203.50 for a difference of 14,203.50 ?
Since you paid 14,164.00, so you made $39.50 profit?
Here is the LEAP: SPY Dec 2021 140.000 call
Bid 140.52
Ask 144.12
Yes, if the stock price stayed asis, you'd appear to make a 39 dollar profit. That's what happens when the ask+strike price are lower than the actual stock price.
You'd have to account for dividends not received. At 1.9% dividend yield annually, that's 535 bucks for the whole year (at a price of 28203). It's only 3 months though so that's a loss of 134 dollars
Subtract 134 from your "gain" of 39, for a total cost of 95 dollars. Paying 95 dollars to borrow 14000 for 3 months annualizes to ~2.7% borrowing rate.
If anyone can confirm this math, that'd be great
Re: On Leverage
Alex, I think that one way to interpret all this is to note that you actually are buying the dividends. The dividends are huge here in the context of calculating the true borrowing costs. The greeks of the options are almost superfluous for this application of buying deep in the money LEAPS and holding them till expirationalex_686 wrote: ↑Fri Mar 15, 2019 11:17 amA couple of points.
If you are interested in going down this route, I would urge you to read up on the formal theory of option pricing. Focus on pricing volatility, such as the VIX. Then focus on the Greeks  delta, gamma, theta, and vega.
Next, ignore dividends. They are just not that germane to your question. You are not buying the dividends, thus including them is like comparing apples to oranges. Also, the interest rate is the risk free rate  both in theory and almost universally true in practice. I understand what you are trying to do here  it is intuitive. It just not a very fruitful line of attack.
Next, to put the putcall parity in the proper context, you need to know the correct / intrinsic price of the put or the call to actually use it for what you are trying to do. Elsewise it is just a arbitrage trade.
Re: On Leverage
Pezblanco, can you expound on the dividends portion a bit more? You (mostly) don't get the dividends from options. Since you are not buying them, what impact should they have in the calculations?pezblanco wrote: ↑Fri Mar 15, 2019 11:42 amAlex, I think that one way to interpret all this is to note that you actually are buying the dividends. The dividends are huge here in the context of calculating the true borrowing costs. The greeks of the options are almost superfluous for this application of buying deep in the money LEAPS and holding them till expiration
I do think the Greeks are important in this conversation. If you know the Greeks you can figure out what role interest and dividends have on option pricing  which is limited. And if Greeks are superfluous at $140, are they also superfluous also at $200? 220? 240? So less of an outlay of initial capital for the same market exposure  right? I suspect that $140 was chosen because it is 50% of $280, and most margin calculation start at 50% margin borrowing. So it makes intuitive sense, but maybe not really that applicable to terms of math. Maybe we could find some other option which has the same market exposure and narrower bid/ask spreads?
Former brokerage operations & mutual fund accountant. I hate risk, which is why I study and embrace it.
Re: On Leverage
Just use futures. Simpler and cheaper.

 Posts: 252
 Joined: Tue Jan 15, 2019 8:29 pm
Re: On Leverage
Options are fun. An in the money option will move (usually) dollar for dollar with the underlying. BUT the option costs less than the underlying, so the % move is greater.grayfox wrote: ↑Wed Mar 13, 2019 6:58 amThat could be a thread by itself to debate whether high inflation is off the table because of a paradigm shift in monetary policy. This would interest a lot of Bogleheads considering that its commonly recommended that half of bonds should be inflationindexed bonds. I'm sure grok would be glad to hear that he can sell all his TIPS.
Meanwhile, I see that there is a third leverage strategy. Just to review:
First is leverage up low volatility portfolio like 40/60 until it has similar risk as 100% stocks. E.g. 2x or 3x 40/60 with Leveraged ETFs. Possibility to double the return of S&P500. But this maintains the same highrisk portfolio forever, so when/if the risk shows up you are guaranteed to experience deep drawdowns.
Second is the Ayres & Nalebuff Lifecycle investing which sounds like ageinbonds on steroids. Start with something like 200/0/100 and end up with 40/60/0. This has the benefit that it gets less risky over time. If you are lucky, you will be delevereged when the risk does show up.
The third I'm seeing is Zvi Bodie's 90% TIPS / 10% LEAPS discussed here. Apparently LEAPS are call options on S&P500. I think they are for 3years. Somehow, a call option acts like leverage. This sounds like the least risky approach to using leverage.** How would you backtest that with portviz?
** Maybe not. It sounds like you can loose 10% every time your call options expire worthless. Death by 1,000 cuts.
Option contracts are usually for 100 shares. That is how it is leveraged. I pay $10 to command 100 shares that could be $100 each.
The downside is that options expire. But you should either roll them over, sell them, or exercise them before expiration.
Re: On Leverage
OK, Suppose I want to own 100 shares of SPY in 2 years. You own 100 shares of SPY right now. SPY is right now selling at i dollares. I pay you p dollars for the right to buy your shares two years from now at a strike of s deep in the money say. Well, you know that with enormous probability your shares are going to get called away in two years at the strike. So basically you are in the position of loaning me, i  p dollars for two years. It's almost without risk (unless the index goes below the strike). So, you want to get a fair loan value for your money. The dividends being thrown off in that 2 year period are a significant portion of you obtaining the fair loan value for your money. The S&P 500 throws off like 2% in dividend yield. The 1 year Libor is like 2.9%. So, basically, if you look at the calculation I did above, the dividend on the whole 100 shares is the interest paid to you for carrying this loan.alex_686 wrote: ↑Fri Mar 15, 2019 12:11 pmPezblanco, can you expound on the dividends portion a bit more? You (mostly) don't get the dividends from options. Since you are not buying them, what impact should they have in the calculations?pezblanco wrote: ↑Fri Mar 15, 2019 11:42 amAlex, I think that one way to interpret all this is to note that you actually are buying the dividends. The dividends are huge here in the context of calculating the true borrowing costs. The greeks of the options are almost superfluous for this application of buying deep in the money LEAPS and holding them till expiration
I do think the Greeks are important in this conversation. If you know the Greeks you can figure out what role interest and dividends have on option pricing  which is limited. And if Greeks are superfluous at $140, are they also superfluous also at $200? 220? 240? So less of an outlay of initial capital for the same market exposure  right? I suspect that $140 was chosen because it is 50% of $280, and most margin calculation start at 50% margin borrowing. So it makes intuitive sense, but maybe not really that applicable to terms of math. Maybe we could find some other option which has the same market exposure and narrower bid/ask spreads?
Re: On Leverage
The main problem for small retail investors I think is the size of the contract. An emini 500 contract is 141K today. If you want a leverage of 1.5 say, then you need to come up with around 91K. So, as the market rises and falls, it's hard to reset your leverage unless you are already so wealthy that 100K is in the fine granularity of your portfolio decisions.
Basically the borrowing calculations I'm doing is for using deep in the money LEAPS as future contracts. Before buying an emini 500 contract, I would want to do the exact same calculation.
Re: On Leverage
If you've got 91k in cash in your account as collateral for the 1.5x leverage on the future contract, you can put some of that cash into an ETF (or inverse ETF) to adjust your holding on a finer scale than adding/subtracting a whole futures contract.pezblanco wrote: ↑Fri Mar 15, 2019 2:53 pmThe main problem for small retail investors I think is the size of the contract. An emini 500 contract is 141K today. If you want a leverage of 1.5 say, then you need to come up with around 91K. So, as the market rises and falls, it's hard to reset your leverage unless you are already so wealthy that 100K is in the fine granularity of your portfolio decisions.
If your portfolio is only 1020k or something cause you're in the first few years of accumulation then you're probably not ready to use leverage yet anyway, since it takes a while to really learn about these things and a while in the markets to get a gauge of your risk tolerance.
Re: On Leverage
$141k is the amount you agree to pay in future. It's not how much you need to pay "today". How much you pay today depends on the "initial margin requirement". As of now, according to TD Ameritrade, the initial margin requirement for June 2019 emini 500 is $6,600 per contract. Then you are leveraged = 141k/6.6k = 21.36 times.pezblanco wrote: ↑Fri Mar 15, 2019 2:53 pmThe main problem for small retail investors I think is the size of the contract. An emini 500 contract is 141K today. If you want a leverage of 1.5 say, then you need to come up with around 91K. So, as the market rises and falls, it's hard to reset your leverage unless you are already so wealthy that 100K is in the fine granularity of your portfolio decisions.
Basically the borrowing calculations I'm doing is for using deep in the money LEAPS as future contracts. Before buying an emini 500 contract, I would want to do the exact same calculation.
Re: On Leverage
Yes. But in this thread, we've been considering setting "reasonable" amounts of leverage for long term buy/hold. So, the leverage values of interest are from 1 to 3 more or less .... The Kelly criterion would be telling us something in the range of 1.2 to 1.5 so 21.36 is way out of the orbit of what is being considered.acegolfer wrote: ↑Sun Mar 17, 2019 9:38 am$141k is the amount you agree to pay in future. It's not how much you need to pay "today". How much you pay today depends on the "initial margin requirement". As of now, according to TD Ameritrade, the initial margin requirement for June 2019 emini 500 is $6,600 per contract. Then you are leveraged = 141k/6.6k = 21.36 times.pezblanco wrote: ↑Fri Mar 15, 2019 2:53 pmThe main problem for small retail investors I think is the size of the contract. An emini 500 contract is 141K today. If you want a leverage of 1.5 say, then you need to come up with around 91K. So, as the market rises and falls, it's hard to reset your leverage unless you are already so wealthy that 100K is in the fine granularity of your portfolio decisions.
Basically the borrowing calculations I'm doing is for using deep in the money LEAPS as future contracts. Before buying an emini 500 contract, I would want to do the exact same calculation.
Re: On Leverage
Leverage implies you need less investment to achieve the same $ return. Suppose you want to invest $1 mil. The same $ return can be achieved with $50k investment w/ 20x leverage ratio. What's out of orbit is investing all $1 mil in 20x leveraged investment.pezblanco wrote: ↑Sun Mar 17, 2019 2:32 pmYes. But in this thread, we've been considering setting "reasonable" amounts of leverage for long term buy/hold. So, the leverage values of interest are from 1 to 3 more or less .... The Kelly criterion would be telling us something in the range of 1.2 to 1.5 so 21.36 is way out of the orbit of what is being considered.
If anyone doesn't know how leverage works, then I suggest one should not use leverage.
Re: On Leverage
Interesting theory. 2 comments:grayfox wrote: ↑Mon Mar 18, 2019 8:05 amThat's my theory. Expected Returns for stocks and bonds are half of what they have been historically. To get back to decent returns, a lot of investors are deciding that will have to take on greater risk and lever up the meager returns that are currently offered by the market.
1. Shouldn't you claim that expected return is half of "historical average" return? If yes, then people will need to use leverage to achieve the historical average returns.
2. Not only there's a demand for leveraged products but also we can offer more leveraged products with the help of development in financial derivatives.
Re: On Leverage
I don't understand why you wrote this ... it in no way is disagreeing with what you quoted.acegolfer wrote: ↑Tue Mar 19, 2019 11:29 amLeverage implies you need less investment to achieve the same $ return. Suppose you want to invest $1 mil. The same $ return can be achieved with $50k investment w/ 20x leverage ratio. What's out of orbit is investing all $1 mil in 20x leveraged investment.pezblanco wrote: ↑Sun Mar 17, 2019 2:32 pmYes. But in this thread, we've been considering setting "reasonable" amounts of leverage for long term buy/hold. So, the leverage values of interest are from 1 to 3 more or less .... The Kelly criterion would be telling us something in the range of 1.2 to 1.5 so 21.36 is way out of the orbit of what is being considered.
Re: On Leverage
My bad. I thought you disagreed with Donice who said futures is simpler and cheaper. I was making an argument for Donice.pezblanco wrote: ↑Tue Mar 19, 2019 2:35 pmI don't understand why you wrote this ... it in no way is disagreeing with what you quoted.acegolfer wrote: ↑Tue Mar 19, 2019 11:29 amLeverage implies you need less investment to achieve the same $ return. Suppose you want to invest $1 mil. The same $ return can be achieved with $50k investment w/ 20x leverage ratio. What's out of orbit is investing all $1 mil in 20x leveraged investment.pezblanco wrote: ↑Sun Mar 17, 2019 2:32 pmYes. But in this thread, we've been considering setting "reasonable" amounts of leverage for long term buy/hold. So, the leverage values of interest are from 1 to 3 more or less .... The Kelly criterion would be telling us something in the range of 1.2 to 1.5 so 21.36 is way out of the orbit of what is being considered.
Re: On Leverage
Leverage isn't magically doubling return; it's taking return from elsewhere. Who are the losers in leverage when someone takes twice their share of pie? If this leverage strategy does work out and a lot of people adopt it, it will expose where their taking from, and I only see 2 places:acegolfer wrote: ↑Tue Mar 19, 2019 11:50 am1. Shouldn't you claim that expected return is half of "historical average" return? If yes, then people will need to use leverage to achieve the historical average returns.
2. Not only there's a demand for leveraged products but also we can offer more leveraged products with the help of development in financial derivatives.
1) small pieces from all of us, which mean less than historical average returns
2) big pieces from active players, who will get no return or negative return
I think it's more of the latter, and how do you know that your strategy isn't the active participant giving up your share or more?
Re: On Leverage
Careful with the math here. Expected returns are generally expressed as an arithmetic average (needing the mean when thinking about variance in a distribution construct).acegolfer wrote: ↑Tue Mar 19, 2019 11:50 amInteresting theory. 2 comments:grayfox wrote: ↑Mon Mar 18, 2019 8:05 amThat's my theory. Expected Returns for stocks and bonds are half of what they have been historically. To get back to decent returns, a lot of investors are deciding that will have to take on greater risk and lever up the meager returns that are currently offered by the market.
1. Shouldn't you claim that expected return is half of "historical average" return? If yes, then people will need to use leverage to achieve the historical average returns.
2. Not only there's a demand for leveraged products but also we can offer more leveraged products with the help of development in financial derivatives.
The difference between the arithmetic and geometric returns are entirely explained by the variance in returns that are actually experienced.
When using leverage to gain exposure above 100% nominal market value, the volatility drag is more pronounced.

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Re: On Leverage
Why is this a surprise? It is the entire basis of my 28 page thread.grayfox wrote: ↑Sun Mar 24, 2019 6:49 amNo responce. OK, I will run portwiz on 120/180/200 VFINX/VUSTX/CASHX from Feb2006 to Dec2010.
I compared it to 100% S&P500 and 60/40 portfolio. Link
Surprisingly, it looks like 3x40/60 practically sailed right through the 2008/2009 debacle At least compared to 100% S&P500
It did get down to 7,163 in Feb2009 but that is better than VFINX which was down to 6,119
Max DD was 44.23% which is not as bad as VFINX 50.97%Code: Select all
Initial Final CAGR Stdev Best Worst Max. DD Sharpe Sortino US Mkt Correlation 3x40/60 $10,000 $17,189 11.65% 32.19% 33.76% 7.11% 44.23% 0.44 0.68 0.55 VFINX $10,000 $10,869 1.71% 17.94% 26.49% 37.02% 50.97% 0.06 0.08 1.00 60/40 $10,000 $12,604 4.82% 10.85% 12.52% 13.21% 26.96% 0.29 0.39 0.87