Looks like the subreddit went private which makes sense given the recent influx of attention:
On a side note, if you ever get the chance to watch The Big Short, do it. It stars Steve Carell, Brad Pitt, Ryan Gosling, Christian Bale, and others.
The movie is about shorting the housing market just before the big crash last decade. The movie is both entertaining and terrifying enlightening.
It was on Netflix last year, not sure if it still is.
Looks like the Reddit CEO will make an appearance on CNBC tomorrow
I did see it and I enjoyed it, but about all I understood about the shorting part of it was that they were betting the housing market was going to crash, so they were shorting it. I didn’t really understand the mechanics of shorting. That part must have gone over my head.
Your post just brought the movie to mind. I don’t know if the movie would answer your questions better than anybody here. It’s just a good movie that wheels in Selena Gomez (among others) to do a bit of tutoring on the subject of shorting etc.
The mechanics of shorting the housing market are very different from those of shorting shares*. About all they have in common is that the trade pays off if things go south. In the Big Short, and the 2008 crisis more generally, it was basically buying insurance against mortgage defaults.
- I mean, you can do it by shorting the shares of house builders, or mortgage lenders, I suppose.
They are back.
(Edit: I’m scrolling through and I realize no one is going to read this. tl;dr: With regular stocks, the most you can lose is what you invested. With stock options (especially Put options) there’s no limit to the amount of money you can lose.)
I have never dabbled in stock options, but I’ve worked with people who have. Here’s my basic understanding of the concept:
You’re excited about a stock, like AMZN, and you think it’s going to do really well in the next week–maybe there’s an earnings report coming up or something. But the stock price is currently $3200, and you don’t have that kind of money to spare. You have maybe $100 bucks to spare. What are you going to do?
That’s where stock options come in. Options are a derivative market, meaning they’re based on another market (the stock market). So instead of buying AMZN directly, you buy a Call option for $25, and that gives you the right to buy AMZN at a set price for one week. So you buy 4 Call options for AMZN@3200 on Monday. Then Friday, if the stock is at $3400, each of your options is worth $200 (the difference between your option price and the actual price). You pocket a $775 profit ($800 minus the original $25 you spent) and go to bed happy. If the stock goes down instead–maybe it dropped to $3100–you let the Call option lapse (i.e. you never buy the stock), and you’re out $25.
Does this make sense so far? You’re basically paying to lock in a specific stock price: If it goes up, you make a profit; if it goes down, you lost your payment.
The other kind of options are Put options. A Put option means someone loans you their stock so you can sell it now, but you have to return the stock to them at the end of the week (or whatever the time period is). So if you think that AMZN is going to drop by Friday, you spend $100 for four Put options now, and then you sell 4 shares of the stock today for $3200 each ($12,800 total). Now Friday rolls around, and the stock has dropped to $3000. You buy up four shares at $12,000 and return them to the lender. So you made $12,800 from selling the stock on Monday, and spend $12,000 to buy it back on Friday, netting out a profit of $775 ($800 minus the original $25 you spent).
Again, to summarize: Call options are a bet that the stock will go up, and Put options are a bet that the stock will go down.
Here’s the tricky part: Options make it easier to invest, but they’re more risky than just buying shares. I’m going to use completely made-up numbers here:
I have $10000 to invest and I buy 66 shares of AAPL stock at $150. Here’s how much I make or lose depending on the stock price:
Stock goes up to $160 by Friday: I make $660, if I choose to sell
Stock goes up to $200 by Friday: I make $3300, if I choose to sell
Stock goes up to $500 by Friday: I make $23,000, if I choose to sell
Stock drops to $140 by Friday: I lose $660, if I choose to sell
Stock drops to $100 by Friday: I lose $3300, if I choose to sell
Stock drops to $10 by Friday: I lose $9340, if I choose to sell
So if the stock does well, I have unlimited upside. But if it drops, the most I can lose is 100% of my money (if the stock drops to $0).
Now instead of buying shares, let’s buy Call options instead. I use the same $10000 and buy 400 Call options for AAPL@$150 (meaning I can buy AAPL at $150 until the end of the week). Here’s how much I make or lose:
Stock goes up to $160 by Friday: I lose $6000 (The stock is worth $4000, but I spent $10000 on options)
Stock goes up to $200 by Friday: I make $10000 ($20000 stock - $10000 to buy options)
Stock goes up to $500 by Friday: I make $130,000 ($140,000 stock - $10000 to buy options)
Stock drops to $140 by Friday: I lose $10000, because I would just lose money by actually exercising my options
Stock drops to $100 by Friday: I lose $10000
Stock drops to $10 by Friday: I lose $10000
So with Call options, I gain a lot more if the stock goes up (over a certain amount), but I lose all my money if it goes down at all. Bigger risk, bigger reward.
And finally, let’s buy Put options, because we think the stock is going down. I use the same $10000 and buy 400 Put options for AAPL@$150 (meaning I can sell 400 shares of AAPL at $150 now, but I have to pay back those shares by the end of the week). I’m going to switch the order, but here’s how much I make or lose:
Stock drops to $140 by Friday: I lose $6000 (I made $4000 on the stock, but I spent $10,000 on options)
Stock drops to $100 by Friday: I make $10000 ($20,000 on the stock, -$10,000 on options)
Stock drops to $10 by Friday: I make $46,000 ($56,000 on the stock, -$10,000 on options)
So in this case, there’s limited upside: Even if the stock drops to $0, the most I can make is $50,000 (share value - price to buy options). But if the stock goes up:
Stock goes up to $160 by Friday: I lose $14,000 (I lost $4000 on the stock, plus I spent $10000 on options)
Stock goes up to $200 by Friday: I lose $30,000 (-$20,000 on the stock, -$10,000 on options)
Stock goes up to $500 by Friday: I lose $150,000 (-$140,000 on the stock, -$10,000 on options)
With Call options, I can never lose more than I invested: At worst, I’m out $10,000. But with Put options, I have to come up with the money by Friday to buy back those options. I wanted to invest $10,000, and now I’m cashing out my 401K just to buy those shares back before the deadline, and I’m still out my initial $10,000 for the experience.
In short, options trading is risky and not for the faint of heart.
Not quite. A put option is an option to sell at a certain price, just like a call option is an option to buy at a certain price.
In your example, regardless of whether you buy a call option or put option the most you can lose is $10000. In either case, if the option is not profitable when it expires then you simply throw it away and lose whatever you spent on it.
Thanks. That was quite helpful.
So with the Call options I lose money if the stock goes down. I lose the difference between what I have to pay and what the lower, current market price is, plus whatever I paid for the options. At least I still get the stock, though. And it may go up over time. It seems like if you buy good stock with Call options you’re somewhat protected.
No. You lose whatever you paid for the option. That’s a sunk cost. Then you have the option to buy the stock for X. If X is greater than the current price, then you wouldn’t exercise the option. If you still wanted the stock, you would pay the current price like anyone else.
For a put option, you again lose whatever you paid for the option. Another sunk cost. Then you have the option to sell the stock for X (which requires you first to buy it for the current price). In this case, you would not exercise the option if X is less than the current price. So you make money if the price goes down (like short selling), but the most you can lose is limited (unlike short selling).
I think where the downside becomes theoretically “unlimited” (or at least limited to your total assets) is when you buy options on margin.
I’m putting in $100 in WSBs (supposed) next target, AMC. Mostly for the lulz, I guess.
Just read WSB, they don’t hide it. It is always pretty obvious what the latest hot stocks are because they all talk about it. Read about 2 posts. Plus there is some funny stuff, in a juvenile way.
My nephew is big into it. Recent grad who got a job that pays far too much. He’s a little too responsible to risk too much though. He’s holding GME and AMC.
Question - should the board of directors of Gamestop be issuing stock like, last night? Normally issuing stock is dilutive for the existing investors, and maybe technically it is here, but wouldn’t shareholder value a month or a year from now be maximized by getting a $300m cash injection? Or does it take to long for an already listed company to issue new stock?
Buying options on margin just means using borrowed money. You can only lose the amount you spend plus the amount you borrow. It’s just as risky as buying options with a credit card.
In contrast, selling short requires a margin account, which is basically collateral for your borrowed stocks (also required if you short sell options). Since the risk is potentially unlimited, the collateral requirement is potentially unlimited. If the requirement is ever higher than the amount of money you have, you will experience the same problems those hedge funds are now experiencing.
Why don’t they get rid of short selling? I don’t see how it benefits the market. If a stock loses value it’s less valuable, and that’s transparent. I don’t see how short sellers are benefitting anyone other than themselves.
In The Big Short they make it clear that these short sellers became convinced that the housing market’s fucked, so they short it. It’s not like they tried to go on financial shows or write articles warning people about it. They instead made money off it. They won but no one else did. What they foresaw didn’t end benefitting anyone else.
So why not ban letting people borrow stock so stocks can’t be shorted? Would this be a bad thing?