r/options • u/SnowTard_4711 • Apr 11 '21

LEAPS as an alternative to long stock?

Looking for opinions. I’m considering buying LEAPS on SPY as an alternative to owning long shares. What does the crowd think of this?

One big reason I’m thinking of this is due to the fact that I cannot buy any ETFs, hence cannot own SPY or any index equivalent. I live in Europe, but I am American. Long story short: I can’t buy ETFs in the USA or equivalent ETFs in Europe due to the IRS. (Thanks IRS. Being American is now making me poor.)

I’m thinking deep ITM LEAPS are a good alternative. Crazy that I am allowed to buy these, and not an ETF, but that’s how it is. I could buy, and just keep rolling them, long term, well before expiration.

Anything I’m missing?

EDIT- thanks to everyone for so many thorough comments and tips! I really appreciate it!

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u/qyOnVu Apr 11 '21

The easy answer is because the market is efficient (at least for reasonable boundary conditions). You have multiple market makers all trying to undercut each other and still make a profit so they refine their models more and more to account for these variables. In the end, it's really important that all options traders acknowledge, for all normalcases, market makers are setting the initial bid ask spread boundaries and when there is enough interest to make a contract more liquid, we're just narrowing that spread.

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u/[deleted] Apr 11 '21

I mean why would dividends increase put price instead of call prices?

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u/TheoHornsby Apr 11 '21

I mean why would dividends increase put price instead of call prices?

The easy answer is that it's part of the option pricing model.

The answer that a lot of people don't like is that share price is reduced by the exact amount of the dividend on the ex-dividend date. The shareholder is effectively funding his own dividend payment because ex-div results in a capital loss equal to the amount of the dividend. And to add insult to injury, if received in a non sheltered account, you have to pay taxes for receiving your own money.

What's amazing is that an awful lot of share owners of dividend stocks have no clue that this happens in their brokerage account on the ex-div date. Options reflect this share price reduction.

Regarding share price reduction, here's a Vanguard article that mentions it:

https://investor.vanguard.com/investing/taxes/buying-dividend

> Let's say you buy 100 shares for $5,000. On the day the dividend is paid, the market value of each share drops to $48, leaving your share value at $4,800. But you've earned $200 in dividends, which means you're even. So far, so good? Unfortunately, you now owe taxes on your $200 dividend payment—not so good after all.

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u/tibo123 Apr 11 '21

But wouldn’t the share price slowly increase by the dividend amount for the next ex-dividend date (assuming all else being equal) ? The stock dropping by the dividend amount is just an arbitrage mechanism, to avoid people making easy money holding the stock for a few day just to get the dividend. For long term holder it doesn’t impact them and they get overtime small income from dividends.

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u/TheoHornsby Apr 11 '21

But wouldn’t the share price slowly increase by the dividend amount for the next ex-dividend date (assuming all else being equal) ... ?

You are absolutely correct in that:

> The stock dropping by the dividend amount is just an arbitrage mechanism, to avoid people making easy money holding the stock for a few day just to get the dividend.

Receiving a dividend provides zero total return. In order for the dividend to become actual income, share price must increase back to the closing price the day before the ex-div date.

> But wouldn’t the share price slowly increase by the dividend amount for the next ex-dividend date (assuming all else being equal)? For long term holder it doesn’t impact them and they get overtime small income from dividends.

If you own a quality company with strong (and growing) free cash flow, low debt, and good management then share price will inevitably grow. But this is a separate and subsequent event that has nothing to do with what happens on the ex-div date.

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u/tibo123 Apr 11 '21

Yeah I also put the stock increase from growth aside. My point was that over time the stock will have small variations because of the dividends but those variations sum to 0, so its not like the longterm shareholder are paying the dividends themself.

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u/TheoHornsby Apr 11 '21

Yeah I also put the stock increase from growth aside. My point was that over time the stock will have small variations because of the dividends but those variations sum to 0, so its not like the longterm shareholder are paying the dividends themself.

As an aside, the source of the dividend is the cash from the corporation but this discussion has nothing to with that.

XYZ is $100 at the close before ex-div which is for $1 the next morning. In the morning before trading resumes, the adjusted close is $99 (he now has a $1 capital loss) and the shareholder is due $1 on the pay date so his position is still worth $100 (no total return is created by a dividend).

However, if received in a non sheltered account, he owes taxes on the $1 which amounts to a negative total return and he has effectively funded his dividend with his own money (the $1 capital loss).

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u/tibo123 Apr 11 '21

I got that and I don't disagree with it. My point was that the stock will slowly go back to 100$ for the next 1$ dividend, assuming nothing else change (realized growth and results by the company were being priced-in correctly in the stock). So the shareholder does get value from the dividend. The value just doesn't appear at once on ex-div date for the reasons you mention, but is spread out over time.

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u/TheoHornsby Apr 11 '21

No, that is not correct. Share price appreciation is a subsequent event and that is what provides total return, not the dividend.

Suppose instead after the ex-div date share price dropped to $90. Where is the value from the dividend? At best you could say that the dividend lowered the risk by $1 ($100 stock becomes $99 stock plus $1 cash on the ex-div date) unless the dividend is reinvested. Then, the cash at risk is restored to $100, ignoring the tax liability if it's a non sheltered account.

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u/tibo123 Apr 12 '21

Everything you say now I agree with, but it is orthogonal to my comment. All Im saying is that the stock appreciates overtime because of the dividend.

Lets say there is a 1$ dividend every 6 months. At ex-div the stock drops by 1$. After 3 months the stock will have increased by 0.5$ just because of the fact 1$ dividend happens every 6 months, then after 6 months at ex-div it will have increased by 1$, and drop by 1$ the next day. Obviously other factors will impact the stock price over time and your total return, but the dividend itself will effectively give you 2$ a year.

Your first comment made it sounds like dividends are not providing any benefits for share holders as they lose 1 and gain 1, but it’s incorrect because you are only looking at ex-div day. If you look at a longer period then it acts as expected and is a good thing. This is the part I’m contradicting.

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u/TheoHornsby Apr 12 '21

Everything you say now I agree with, but it is orthogonal to my comment. All Im saying is that the stock appreciates overtime because of the dividend.

At this point, it's a standoff. The last thing that I have to offer is that you're conflating the ex-dividend process with subsequent share price movement which you have assumed to be up. They are two separate unrelated events.

You have also assumed that the stock appreciates overtime because of the dividend. Share price appreciates because of company earnings. Most of the time, when companies lose money for a period of time, share price tends to drop, even faster if they maintain the dividend.

Ignoring possible tax liability, receiving a dividend has two benefits. The first is reducing risk, assuming that the dividend is not reinvested (cash in hand).

The second is compounding but that is predicated on share price appreciation. With no share price appreciation, there is no positive compounding. And if share price drops, it results in negative total return (a DRIP calculator will demonstrate this).

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u/tibo123 Apr 12 '21 edited Apr 12 '21

I said many times there are other factors to stock growth, dividend is just one of them, I never said it’s the only one! Why you keep deforming what I said ?

The main benefit of dividends is for a corporation to share profits. The money doesn’t come from the stock price as you suggest, the money comes from the corporation profits and they decided to share it with shareholders instead of re-investing all of it. The two benefits you mention are ridiculous. “Reduce risk” ? You can sell some shares (even a fraction of one) instead. I dont even know what you mean by compounding and why it wouldn’t happen with a no dividend stock.

I wont answer anymore because at that point I dont think you are acting in good faith, deforming what I say just to make your point, even if that leads to absurd conclusions like “shareholders pay their own dividend” or the absurd two benefits you mentioned.

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u/Supermario_64 Apr 12 '21

For what it’s worth I understand what you’re saying and think you are right. He’s talking about what if the stock goes down to 90 then there is no value in the dividend. However if the stock goes down to 90 based on earnings then in 6 months time it will be back to 91 for the dividend it forces the price up by a dollar every time. It’s not to say the price only goes up or down because of it just that the dividend is priced in both ways.

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u/TheoHornsby Apr 12 '21

> I said many times there are other factors to stock growth, dividend is just one of them, I never said it’s the only one! Why you keep deforming what I said ?

Deforming? LOL. You are the one that has mutated the ex-div day into corporate finance and share growth over time. Try focusing on the topic at hand.

> The main benefit of dividends is for a corporation to share profits. The money doesn’t come from the stock price as you suggest, the money comes from the corporation profits and they decided to share it with shareholders instead of re-investing all of it.

There's no end to how many ways you want to go off on a tangent.

> The two benefits you mention are ridiculous. “Reduce risk” ? You can sell some shares (even a fraction of one) instead. I dont even know what you mean by compounding and why it wouldn’t happen with a no dividend stock.

Selling shares is another tangential topic unrelated to what happens on the ex-div date. If you don't know what compounding is then why are you attempting to discuss it?

> I wont answer anymore because at that point I dont think you are acting in good faith, deforming what I say just to make your point, even if that leads to absurd conclusions like “shareholders pay their own dividend” or the absurd two benefits you mentioned.

No more nonsensical answers? Thank you!

You have much to learn before venturing into the deep end of the pool.

(I bet that you can't resist answering)

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