What is Softbank doing

Factual Questions
1

Can someone explain in layman’s terms what this strategy is? And why it is “raising eyebrows”. Specifically, why buy both the stock and options? I have a basic a novice’s understanding of how options work.

Also, while there doesn’t seem to be anything illegal or unethical about what they are doing, seems like most articles about it imply that they have been “exposed” as being behind these risky moves. Why are they risky? Have they actually single handedly moved the stock market? That might be opinion. But id like a factual answer for the options thing.

2

I’m not an expert either, but here’s my read.

First, it’s “raising eyebrows” for a few reasons depending on your POV. Softbank is a Japanese company playing for big money in the US market. This isn’t necessarily a bad thing, but many people will view this as a red flag. Softbank is a holding company, not terribly different from Buffett’s Berkshire Hathaway, and it’s principal goal is to invest it’s shareholders money into stable, growing businesses to build long-term wealth. They are NOT a hedge fund which plays the market for short term gains, which is what these types of trades signal. So Softbank is getting out of it’s lane a bit here. Lastly, it could be viewed as a form of market manipulation or insider trading, though I don’t think there’s any evidence that it’s somehow fraudulent in any way, but it could be considered artificial. It’s also the scale that’s notable, one investor moving markets is going to get people talking no matter what.

What does it mean, who knows. I think this hints that Softbank is predicting something dynamic will happen to the market. We’re very overdue for a serious market correction. For the last 18-24 months or so experts have been predicting a major adjustment and it hasn’t happened. Even through the pandemic the blue chip stocks, and the market in general, have been holding strong. It might be a bet that the blue chips will contract dramatically or insurance against the same, or they could be a bet that they will spike for some reason. Maybe these trades are meant to temporarily bolster the value of the stocks as part of some tactic we don’t know about. Without knowing exactly what the trades look like it’s hard to know how it all fits together.

I don’t think it’s at all important that they are buying options on stocks they own major stakes in. First, Softbank is not a single entity. The traders that are managing their holdings and their private equity are different than those playing around with options and futures. These options also boosted the prices of the stocks they own over the short term, so for many of their investors this is a good thing.

For a company as large as Softbank, I don’t think this really represents much of a risk. They could absorb any losses and these options aren’t all-or-nothing bets, they are what they say…options, meaning executing them is optional for the person taking out the contract, they only risk the premium. The types of options Softbank bought are call options, those are considered very low risk. In fact the premium you pay is specifically because they defer risk. Selling options however is very high risk…they didn’t do that.

Perhaps the biggest reason that this is a news story is because once it’s exposed the investor loses their advantage. Other institutional investors will see this and start counteracting it, in this case knowing that the spiking trade volume was sparked by a single buyer, and not the market at large, is really valuable knowledge. It also means that if Softbank saw an opportunity, then everyone else will try and copy them which implicitly cancels out that opportunity. Once something becomes conventional knowledge there’s no longer a gap to be exploited.

3

An explanation that makes sense to me:

Softbank was buying shitloads of call options with short expiration dates.

They had to buy them from somebody - market makers. As the price of the underlying stocks rose, aided by Softbank’s purchases of common, as well as general euphoria, the market makers essentially are then short calls.

Market makers want their overall positions to remain neutral, so they have to buy the common to hedge their short options positions. And because of the leverage involved with options, with each move higher, the amount they have to buy to keep the hedge balloons.

It’s basically a short squeeze.

Then the music stops and it all works the same way in reverse.

It’s a risky strategy (the risk is in the size and the expiration - it has to go your way, and fast), but there’s nothing shady about it. There’s some grousing about the propriety of using that strategy by of the particular Softbank entity that was doing it.

4

Can you explain the risk from Softbank’s POV a bit more?

5

I asked about this on Twitter and got a response from an expert in options trading:

the effect is probably overstated and just another boomer story of how the kid’s are dumb and its not like in our time when markets never did stupid stuff.

But, customer buys call. MM sells call and buys stock to hedge. hence net buying pressure

6

What i still dont understand is why buy Apple stock and then buy Apple Stock call options. Arent you both purchases betting the stock will go up? Why not do one or the other? Call options would be riskier i suppose, with higher returns if your right. Put options would be a hedge.

7

No, that’s not correct (someone please chime in if I get this wrong).

Call Options are NOT riskier than just buying the stock. The Call Option says I’ll give you $5000 for the rights to maybe purchase 1000 shares of Stock X worth $50 today for $52 dollars in 3 months. That means, if I so choose I can spend $52,000 in 3 months in hopes that the stock will be worth more than $57,000. So I’m giving you $5000 for the chance to maybe earn a measure more than that. If the stock doesn’t reach a price where it’s profitable I simply let the option expire and I’m out the $5000 only. The option moderates risk by capping potential losses.

On the other hand, were I to simply spend the $50,000 to buy the stock up front and the stock goes down to $40 per share, I’ve just lost $10,000. If it goes down to $30 per share I’ve lost $20,000.

When dealing with bluechips the premium you’re giving is probably more likely to be lost than a massive drop in stock price, so in that sense it’s riskier, but the risk is capped.

8

Ok maybe we are two fools debating…

If i buy 100 shares at 10 dollars a share. I have invested 1000 dollars. Price goes up 10 i make 10%. Goes down 10 i lose 10%.

Thats simple enough.

Heres what i don’t get…

If i invested $1000 in call options, I would likely have the right to many more shares than 100. So i could make or lose much more than 10% on a 10 dollar move on a 100 dollar stock.

9

You’re not really “investing in call options” per se. You’re buying a contract. So yes, if you’re paying a premium of $1000 that’s going to entitle you to buy WAY more than $1000 worth of stock. Probably 10 fold. But the catch is, that if the price goes down you do nothing. Your $1000 is sunk cost, but if the prices go up you’d have the potential to maybe buy $10,000 worth of stock and immediately flip it for profit of $15,000 or $20,000. It’s risky in that it’s an all-or-nothing play, but you have the potential to buy and sell WAY more stock than you could otherwise afford. In this example, you can bet $1000 to maybe buy $10,000 worth of stock. You never need to come up with the $10,000 because you can buy it on credit because you’re going to immediately flip it for the proceeds.

10

Hmm. If i am making money on my 1000 who is losing that money?

11

The market maker. On the other side of a Call Option trade there’s a market maker who has to agree to sell you that stock at the agreed upon price at the agreed upon date. They are betting that the premium they charge is high enough and the chances that the stock will skyrocket is low enough for this to be a good bet. Like any insurance company they will have hundreds of similar deals so they are dealing in the law of averages. Every single stock isn’t going to go up a lot, so many of those premiums will be surrendered and will be 100% profit to them. They also are going to buy that stock in advance just in case they need to sell it to you at the agreed upon price, so they are guarding against some wild event where the stock goes up 100 fold.

12

Thanks. I think i understand better now.

13

Maybe nobody. It’s not a zero sum game. Whoever sells the call collects a premium. Let’s say it’s an average Joe who bought 100 shares @ $100 and will happily move them out @ $120 collecting a profit on the stock as well as all the premium from selling the call and any other calls sold previously

Market makers trade delta neutral, so they could sell a call and then offset the deltas by buying stock. That’s a very simplified example, they’ll usually have an entire book of positions.

14

It wasn’t riskier than buying stock, it was just riskier than a more normal options trading strategy, because of the sheer volume of calls they bought plus the short expiration dates on them.

If you buy stock and the price goes against you, there no clock ticking at which point the trade is over and you’ll have locked in a loss. If you want to, you can sit and wait.

I don’t know the actual time period of the options Softbank was buying, I only saw them referred to as “short-dated.” There are weekly options and monthly options. So I’m inferring that their expiration dates were a month or less, but I don’t know.

Which doesn’t leave a lot of time to recover if things go the wrong way. It’s true your loss is capped, but they bought something like $4 bln worth, which is about 4% of the total assets of the fund that was doing the trades.

The stock of the parent company is down 8% this morning in Japan.

15

ISTM that people are talking past each other a bit. Whether options are riskier or less or more risky than the underlying stock depends on whether you’re comparing the invested dollars or the shares.

Investing $X in call options is more risky than investing $X buying the underlying stock.

Buying call options on X number of shares of a stock is less risky (in terms of maximum potential $ loss) than buying X number of shares of the underlying stock.

Bottom line is that call options are a leveraged investment and as such are inherently riskier than the non-leveraged stocks. But they’re also a lot cheaper for this very reason, so you can purchase the upside potential at a much lower cost, such that there’s less downside risk when measured in absolute dollar terms.

16

Sure.

There’s a couple of things. “The media” like to make out like it was some evil string puller and now the mystery is solved.

The investment biz types are chowing on them because it’s an inappropriate level of speculation by the fund involved (plus a little bit of jealousy at having the balls and at the result). Putting 4% of your portfolio in something that could be worth zero (and never recoverable) in a month is pretty nutty for a fund.

17

How is buying a call option a leveraged investment?

18

Buying a call option allows you to control 100 shares of stock for the price of the premium until the contract expires:

XYZ is at $100 today

You can buy a $100 call option (controlling 100 shares) on XYZ for $10.

So, you’d pay $10 x 100 shares or $1000 to control $10,000 worth of stock. That’s leverage.

If XYZ takes a dump and drops to $50, you’re out the thousand dollars only.

If it goes up to $120 you can exercise the call and buy those shares for $100. However that isn’t common. You’d most likely just sell the call option you bought for $20 (or more) $20 X 100 shares=$2000

19

How is buying a call option a leveraged investment?

It’s leveraged against the strike price.

For mathematical simplicity, imagine a guy who owns an call option on a stock, with a strike price of $99. If at the expiration date the shares are trading at $100, then his option is worth $1. If the shares trade at $101 - 1% higher - his option is worth $2, which is 100% higher. If the shares trade at $99 - 1% lower - then his option is worth $0, which is 100% lower.

If the guy owned the actual shares, then the value change would be in line with the change in share value (unless he was otherwise leveraged, e.g. if he bought on margin).

20

Am I misunderstanding leverage? I understood leverage to mean debt. There’s no debt described in lose examples that I see.

@Fotheringay-Phipps and @dalej42 petty sure I’m clear on the math on the value of the option, but perhaps it’s a nomenclature issue for me.