This is Worth Reading

I know it’s been a while and boy have I been busy. Quick personal update: I took a break from straight up gambling on the market to really focus on enjoying the outdoors and everything life has to offer. And what a mistake that was. It’s not great out there people. Let’s stay indoors and upset our neighbors. Maybe drink a little too much. It’s not a problem if it’s a pandemic.

Options Trading: Is It Time to Stop?

As you all know, up until about 2 months ago, I was employing the strangle strategy, which means I was buying both calls and puts on the same stock. Volatility is typically priced by most models ‘daily’ and uses highs and lows to compute daily volatility, but once the market started moving intraday either up or down, those models became steaming piles of shit. I typically just held for the day and never stayed around for an open or close. That worked fine; here are my returns in case anyone is wondering:

I’m the light blue line in case anyone can’t figure that out by process of elimination. The dark blue is all of my boring portfolio. So, not tremendous, but not bad. I also never had more than 30% of my portfolio in options. I’m not going to calculate my Sharp Ratio, but it’s obviously fantastic. Also, I didn’t start trading options until that bit spike in the light blue line :).

And then I stopped trading. As some of you know I put a bit of money into Biotech. Biotech hasn’t really worked out, but I was saved by Moderna (the shadiest of all vaccine producers; I will not be getting my vaccine from them). I could have a whole other post on politics and drug prices, but ehh, I’m not sure I care that much.

But while I may have stopped trading options, r/wallstreetbets has only exploded in popularity. Have a look at this chart, individual investors trading a pathetic number of options (that’s me folks) have absolutely changed how the stock market works.

And look how much spending on premiums has gone up:

But why does this matter? How does it drive up the market? Well, when you sell a call option, should that call option you sold become ‘in the money’, you now have to sell those shares to the owner of the call. That means, unless you hold the shares, which no true gambler does, the option seller needs to buy shares of the underlying security on the open market. That increases demand, hence the price goes up. It’s a vicious cycle. The faster the price goes up, the more these small investors pile into short term options. Every week when options expire call sellers are forced to snap up more stock. Oh, and here’s another graph to illustrate my point everyone is buying short term expiration options:

Apparently I wasn’t the only one with this strategy! And I thought I was a snowflake. More on all that later.

In terms of total options value, nominal value of calls traded on individual US stocks has averaged $335bn a day over the past two weeks, according to Goldman Sachs. That is more than triple the rolling average in 2017 to 2019 (source, reddit – I might as well be honest when I take something from the most reliable source of news on the internet). In July Goldman also reported for the first time ever the average daily value of options traded exceeded shares, with July single stock options volumes hitting 114% of shares volume. I mean, this is bad for a lot of reasons, but mainly because there are going to be enough options sellers who can’t cover their exposure and the ripple effect will begin. The drop will be probably faster than we’ve ever seen. How far it goes, completely unknown. The Fed will likely just step in and hand over our future social security to banks who will just write-off massive client losses.

So, should you stop trading short-term options. Short answer, yes. There’s still money out there, but the premiums are too expensive and once all these tiny, pathetic, low-life quarantine-bored retail investors get wiped out, they will go away. It happened during the Crypto craze and it will happen again. There’s probably still money out there, but I’m not going to try and time it. And here is a great specific example why

Softbank: The Donald Trump of Startup Investing and Screwing Over the Little Guy

First off, thanks to Mr. McG for inspiring a lot of this post. He sent me a great podcast about Softbank’s recent move into equities. And of course Softbank is evil and stupid. It’s just so much money that every autist in America is going to follow them straight to the pits of financial ruin and Softbank will probably partially pull out just before then.

Basically Softbank bought about $4bn worth of calls exposing itself to $30bn in equities (I have no idea how that doesn’t translate to $40bn, but my investigation stops here folks). How does that compare to the $33.5bn per day ($335mm notional, well probably)? Well it’s obviously not much, but depending on where they are placing their volume, it can certainly encourage the retail market to do dumber and dumber things. They specifically dumped money in to Amazon, Microsoft, Apple and Tesla. So, yeah, it’s a big deal. Dealers selling calls into this already hot market got caught in…wait for it…I love saying this…it’s arousing…a massive Gamma Squeeze.

What’s a Gamma Squeeze you may ask? Well don’t ask Google, it doesn’t know That’s why I’m here, to misrepresent facts. Gamma is one of the 4 greeks, which are risk measures for an option. Delta represents the change in an options price resulting from a change in the price in an underlying security. So an in-the-money call option will have a delta of about 1, meaning a $1 change in the security’s price will increase the price of an option by $1. An at-the-money call option could be around .5. So for more volatile stocks that are out of the money, they tend to have higher deltas and your blue chips have a little bit lower. Gamma measures the change in delta. Gamma is an indication to traders of what to expect of delta in the future (right, it tells the future). So for a gamma of -.8, that means a $1 change in the price of the underlying security will increase delta by .008 (remember options represent 100 shares and for the Greeks everyone likes to divide by 100). In short, Gamma is small for deep out of the money and deep in the money options and it’s largest when options approach at-the-money.
Here’s a chart to illustrate a gamma squeeze, courtesy of ZeroHedge:

So as more investors piled into short expiration calls, the delta and gamma shot up. You can see in the bottom chart that put-call skew is at an unprecedented level with practically no one short. So anyone who sold calls in June (end of June is when Softbank bought) was forced to buy up the underlying security because their risk, as measured by gamma, meaning an increasing delta for call holders increasing exposure for call sellers, increased (sorry, I’m not editing that sentence). So the strategy is to take a large holding in a single stock. Then buy an outsized number of call options in the hopes it sparks more investors to buy call options, not just shares, because…leverage…and then force call sellers to snap up even more shares of the underlying stock at a premium because there are no sellers. Then sell your shares into a frenzy for a nice profit. Remember one option represents the right to buy 100 shares, so a small ripple (ahem, gamma squeeze) in the options market that creates a small wave can have large consequences for the volume and volatility of the underlying security. None of this has anything to do with actual value. Who does value investing these days anyways?

So yes, Softbank is kind of an asshole. They are benefiting from retail investors chasing the market and they are choosing what stocks to pump. They have enough dumb money behind them to create demand for an asset that is solely based on speculative risk and forcing dealers to hedge. It’s not illegal per se, but individuals don’t understand how much risk they are actually taking on. AAPL’s price doesn’t represent AAPL’s earnings and TSLA’s stock price can be seen from outer space despite the fact every car company is desperately trying to make electric cars.

Apologies for the long delay and the fact this post isn’t really innovative in any way, but I found this pretty fascinating. I feel like there’s a bit more light being shed on this massive run-up. More clarity means a safer unwinding. Investors are less likely to get spooked and dump their 401ks at all-time lows. So don’t buy, don’t sell. Don’t do anything right now. Go outside. Or don’t. Go to sleep. Wake up next year.

Why am I writing this? Well first, as you all should know, my ideas are important. Next, you may ask ‘Why shouldn’t I just read SeekingAlpha, ZeroHedge, the WSJ or some other financial news website for ideas and analysis. You should! I read them, but as a regular retail investor who cares more about my job than making a buck in the market, I just don’t have time to really comprehend analysis past a certain point. I appreciate analysts who can dissect financial statements and find that edge that only workaholic investment banker could, but how am I supposed to know whether or not the analysis is any good? Do I just trust the analyst? And if I did, then why doesn’t he just send out his portfolio and I match that? Funny how analysts and banks that cover companies never divulge what they actually hold. And for that reason, I’ll never fully trust them enough to trust their analysis.

So, where does my information come from?

All over the place. I read things casually, and then they might show up here. I just incantate information. I really don’t know. I’m obviously slanted towards tech, but open to new ideas and not afraid to research elsewhere. I take more of a ‘macro’ approach. I don’t investigate financial performance, build pro formas or even read that many 10ks (they’re basically out of date when they’re published anyways). That said, I might do those things…who knows?
What can you expect from these emails? Not much. Most of these ideas just sit around in my head and I feel they have been pretty damn useless. What you can expect is that I will tell you what I’m buying and selling and why. Who the hell makes a stock recommendation and doesn’t buy it? What has this world come to?

How often will you get them?

Maybe this is the only one. Maybe I’ll send two a week, month or year. Let’s have fun with it.

What’s the theme?

Generally, this wont’ be a how-to on portfolio allocation. Most of my money will be in cash, mutual funds or ETFs. This is my 10% play money that I want to 10x (I can almost guarantee you that will not happen). I also won’t owe anyone my left testicle if one of these ideas blows up. So let’s have some fun.

First up, big news, I sold about 65% of all of my stocks, like my entire portfolio, which is basically my whole net worth, last Friday. At the time of selling, my portfolio was in the same place it was last September. I figure, if 1 in 5 American workers just filed for unemployment, and I only lost gains over the last 7 months, that is a huge reason to celebrate. Also, what’s the upside for holding? The market could go back to all-time highs, where unemployment was 3% and I make 10-20%. The downside is market gets its impending financial reckoning and I lose 30 – 50% of my net worth. No thank you!

I didn’t sell some stocks, that is the stocks outside of my 10% risk money. I kept VHT (healthcare ETF), AMZN, BRKB, VPU (utilities ETF), VZ, T, VBTLX (Vanguard international bond fund), VTABX (Vanguard US bond fund), and 15% of my holdings in VTIAX (Vanguard total International Stock Index Fund) and VTSAX (Vanguard US Total Market Fund). Besides that, I only kept stocks in my home run fund. Let’s save the home run fund for later. That’s what this email will usually be about. I also bought $289 puts on SPY expiry July 17th. Yeah, I think we’re going down. I really hate bears though, so I’m hoping this sentiment won’t last.

First Pick! One Financial

Words of Wisdom: if you like something, find the thing that made the thing.
So if you think an industry will experience rapid growth, go figure out what powers that industry. Then, find out what powers that. Buy that. There will be a lot of firms at the edge of innovation, but they will all get their core resources from somewhere.

Let’s start with a OneConnect Financial. These guys are a Chinese company that somehow managed to get listed on the NYSE. They call themselves a ‘technology as a service’ platform for financial institutions in China. All of China’s top lenders use their technology for, well, something, and so do 99% of the tier down. According to them, they service things like channel sales, product, risk management, services and operations. They’ve got all the right buzzwords such as AI, blockchain and big data. Basically if you are a financial institution in China and looking to go paperless and online, this is your first stop, after the government of course. They’re growing and they are expanding in to Asia.

Here’s what I’m most excited about. China is investing heavily in an alternative to SWIFT. In short, SWIFT is a ‘society’ (hence the S) that provides a network that enables financial institutions worldwide to send and receive information about financial transactions. Basically if you’ve ever had to send an international wire, maybe to some shady-ass ‘services’ company in Mexico for spring break, you sent a SWIFT transfer. It probably cost like $30 and took 2-5 days. The key thing here is they send ‘information’. The ‘information’ usually passes through multiple banks, sometimes obfuscating how much money is actually included in the transfer. It accomplishes security through obscurity and is seriously outdated US tech. Believe it or not, US finance doesn’t like change!

The inefficiencies in SWIFT is one of the main reasons why people were so excited about crypto. Ripple was specifically designed for interbank transfers that are fast, secure, and cost the mining fee to verify the transaction (so less than $1). The Chinese want something better. Alibaba and Tencent have already built parallel banking systems and we are all increasingly using digital wallets. The US has fallen behind, drastically.

I could use this paragraph to give a bunch of stats about how Asian point of sales cash purchases are projected to fall by half by 2023 and last year mobile payments in Chinese customers paid $49tr in mobile purchases, up 35x from 2013, but what does any of that even mean. The point is the opportunity is huge. Some Chinese fintech firms will fail, some will succeed. I’ll make the bet on the software that powers these Chinese tech firms. Also, they were spawned off by Ping An, a $1tr Chinese insurer. These guys have spun off 35 companies and invest $160bn every year in R&D. Its no mistake OneConnect is positioned to win.

So all that’s great, but how do we know there is value (and really, still, what do they do?). They listed on the NYSE last December with analysts projecting 70% growth in a year. Today, they have a market cap of $5bn. To me, that feels low. Their net margin is -71%, but I really don’t have the time to figure out exactly how much of that is spent on future product or supporting existing customers. I’m assuming it’s a tech company looking for massive growth. And that’s the bet I’m making. I only own a little now, but I’m looking to add to the position as I free up some other short term plays (like my SPY puts) and the market, well, looks a lot different than it does now. If it pops, I’ll buy, because, well, FOMO.

Ticker is OCFT.
Ok, that’s my first rec. More to come!

Whale Hunting