patrick.net

Randy, Conor, have you guys considered writing short-term options against the long LEAPS?

I’m pretty naive on homebuilders but my impression has been:

It seems to me that these builders may have to take some losses and suffer through years of underproductive markets before they can start to take off again.

Astrid,

You are absolutely correct that the HBs are heavy on inventory. It will take a few years to work off the excess inventory with a much slower pace of sales. The short term outlook for the HBs stinks.

But sometimes when you invest, you need to look out a few years. The HB stocks have priced in a significant amount of downside. Is it enough? I don't know, but my guess is that the stocks are oversold. I know that for those of us who live in CA, it is hard to see the bigger picture, but the reality is that the downturn is going to hit us a lot harder than it will hit most of the rest of the country. It will also hit FBs a lot harder than it hits HBs.

Unlike previous downturns, when builders were regional companies who rose and fell with the local housing market, many of today's companies are national builders. They will continue to sell houses at roughly the same prices in TX, OK, MI, OH, IL, NC, etc., which will offset the huge drops in sales in CA, NV, AZ, NY and FL.

I like DHI, specifically, because I think management will be proactive in slashing prices to move inventory. And they will focus their future building in markets where prices are holding steady.

The HBs may lose money for a few quarters, but they will not all go out of business. We are not talking about dot-coms that never showed a profit.

Conor,

I have a drinking buddy that worked CBOE for years. Started as a clerk in the 80's. He would always tell me, "at some point you just need to "own" the stock" and I always wondered what the hell he was talking about! Some times things make more sense when you hear them, others when you read them. I'm feelin' the love baby!

BTW, I heard that too. But I am not sure if it will look as large as the moon side by side. That would be scary.

Mars is half the size of Earth. The moon is 1/4 if I recall. Just how close does it need to come relative to the Moon for this to work? Use your high-school geometry. I highly doubt it unless there's some kind of "gravitational lens effect" I'm not aware of.

Conor and Randy,

I bought the Jan '09 LEAPS on DHI with a $25 strike price whent the stock was around $20. If the stock falls below $16, I will buy more LEAPS. I don't really need to worry about market liquidity because I am just a tiny individual investor with a few extra bucks to gamble. As for theta... huh??

eburbed Says:

Stuck - Cupertino, Mountain View, Palo Alto, - when will the insanity end!

I don't think it will. Although I am very much in the a hard landing camp (calling for average sqft price in Santa Clara to go back to $400 by end of 2008), I think a soft landing for a place like Cupertino is very much possible.

Some may think I may be saying "Cupertino is different" like perma-bulls. No I am not. The thing is Cupertino is a very small place. The inventory for single family homes is less than 100 ! The BA population virtually guarantees 100 GF. There are too many desperate Asians wanting to buy a piece of this holy Cupertino land. And if it's in Monta Vista, aaah, it's pure Nirvana for them.

The prices will come down. But not as much as rest of the Santa Clara county. Currently the GF are patting their back for reducing 5K from the 1.5M asking price. So let's not underestimate the stupidity of these folks.

There are a lot of condos being built in Cupertino. I do not know how it will affect the SFH market. We will see.

For such reasons, I consider Cupertino to be a great gauge for market sentiment. The direction and acceleration of price movement is more important than actual amount. If Cupertino drops by 10%, rest of the BA will be in deep trouble.

Randy, the size of the moon can "change" due to optical illusion. I think DinOR was talking about perceived size.

This should be VERY easy to prevent, theoretically. All it takes is for the city/county/state to retain the “right to purchase” the property at the stated price.

This wouldn't prevent private land contracts, which an owner of a property has a Constitutional right in the US to execute, short of some eminent domain (as I understand it, but IANAL, so worth what you paid).

Glen,

By theta I mean the component of theoretical options pricing that is the time left on the contract. As that goes up, the option gets more expensive. At some point, the premium you pay for locking a far future price is more than the value at that price, considering the risk-free rate, etc.

Conor said,
The CEO of DHI said in the earnings conference call that orders had “fallen off the Richter scale.” And now the group has bounced 12-13% in a short period of time. I think a lot of these names will ultimately show actual losses, not just lowered profits, and am in absolutely no hurry to get involved yet.

I'm taking a gradual approach. Bought a few LEAPS a couple weeks ago...if the HBs get slammed again I will buy some more. At some point, the stocks will bottom out. (probably about a year or two before the housing recovery starts). Then the upside will be huge, IMO.

You may be right that the HBs will show actual losses. But I think they will eventually recover. But you could be right--I might be a year or two early here...

I agree with SP. This is one of the easier problems to solve.

In Mumbai (Bombay) this law was actually put in practice. The reported official price used to be way below 50% of the real price. That was not to save on property taxes, but to hide your actual income. Loans were difficult to obtain. Almost all rich people payed cash. Cash from undeclared income.

So if you go overboard with under-reporting, the income tax people would forcibly buy the property from you at a slightly higher price.

This was 15+ years ago in Mumbai. It should be easy to do similar in US.

TN

I hope you're right and this time results in the daytraders getting trapped. I only say this because I have sector hedge positions with downside bias; and they're not looking great right now.

How much do you really think the daytraders add to price movement? I got the impression most remaining daytraders were either scalpers or day momentum players using super low commission brokers and esignal or tradestation...

Peter P,

Thank you for clarifying (on my behalf) that which I did not fully understand myself.

Yeah, yeah that's the ticket! "Perceived size". Yeah, yeah.

Randy said,
By theta I mean the component of theoretical options pricing that is the time left on the contract. As that goes up, the option gets more expensive. At some point, the premium you pay for locking a far future price is more than the value at that price, considering the risk-free rate, etc.

Oh, ok. I understand this conceptually, but I don't have an MBA, so I can't do the math precisely. I'm not a big believer in Black-Scholes anyways... just kind of go by the seat of my pants...

I’m not a big believer in Black-Scholes anyways… just kind of go by the seat of my pants…

Black-Scholes is still useful in what-if analysis.

B-S is pretty close to actual trading market price for liquid options. Whether this is because B-S is accurate or because everyone is using B-S is a question I leave to Peter P and others to ponder.

I will say that there are other methods, like the bi-nomial method, which are much more complex but tend to produce results very close to B-S. I'll leave the arguments about why that might be to our resident postmodernist, DS.

Glen,

I did a similar play back in OCT 01. Nobody, and I do mean nobody was touching telecom with a ten foot pole. I found this rinky dinky Global Science and Technology Fund that tanked right out of the gate. IPO'd just prior to 9/11. After holding it for about a year it was up over 70%. I figured people aren't going to out grow the need to communicate and we're not going to "out grow" the need for housing! I'd have to say though (no matter how successful) it was a pretty speculative play.

Whether this is because B-S is accurate or because everyone is using B-S is a question I leave to Peter P and others to ponder.

Why me, I was only B-S'ing. :)

tannenbaum,

No problem. As I said, the info you provided, makes it even funnier.

DinOR,

I did something similar, but with the big tanking telecoms that were ripe for consolidation. But I was very much an industry insider at the time, so I'm not sure how speculative that actually was, looking back on it.

Peter,
I definitely think it is useful. It is actually a pretty decent way of looking at the factors that should affect option pricing. But I think it can also lead to systematic mispricing in some cases.

Real Estate Expo in SFO at end of August. Anyone ?

You don't want to miss Al Gore and George Foreman teaching about RE, do you ?

But I think it can also lead to systematic mispricing in some cases.

Just make sure you have the "right" volatility input. If you do, you will have the "right" price. ;)

In practice, this is very difficult because volatility changes across strikes, time, and underlying price.

DinOR,

I have a few bucks set aside as "mad money" for purely speculative purposes. I can afford to lose it all if my strategy backfires (though of course, I would prefer not to). These kinds of investments are the most fun. (Especially with DHI up over 5% today--go baby go!) Gambling, pure and simple. I don't pretend it is anything else.

You don’t want to miss Al Gore and George Foreman teaching about RE, do you ?

Huh? Does grilling food contribute to global warming?

The next thing they usually learn is “don’t ever be short naked options, it’s too risky.”

However, one can be tempted into writing too many contracts of Far OTM options. When the market makes the "wrong" move, the margin requirement can escalate very quickly.

Conor,
You are right... I have a lot to learn. Which is why I am very cautious about the amount of money I put into options. (More like a trip to Vegas than a deposit on a house.) And I know enough to know what my downside is on any particular trade.

I guess what I am saying is that I'm not sure that things like historical volatilty should matter so much. It is really just technical analysis dressed up in scientific clothing. Historical volatility tells you very little about future volatility, IMO.

There are so many non-quantifiable factors that go into investing. Sometimes you just need to sit down and figure out what you think a stock is worth, then hope the market agrees with you before your LEAPS expire.

Your sarcasm’s often funny, but I don’t find any humor in your racial comments.

How is that a racial comment? It has some truth to it.

Ok, ok. This runup is ridiculous. Nothing goes up 7% a day on no news. Plus, Conor is scaring me about my ignorance. I sold my DHI LEAPS. Maybe I'll buy them back later.

I know, I know. I'm a filthy daytrader!

I guess what I am saying is that I’m not sure that things like historical volatilty should matter so much. It is really just technical analysis dressed up in scientific clothing. Historical volatility tells you very little about future volatility, IMO.

That is an important realization. ;)

Volatility itself can be more volatile than price. However, it has been said that volatility tends to be more range-bound than pirce.

Not investment advice

Randy H,

For years we've been told:

Food, Clothing, Shelter (and I agree). Along about the 1970's I believe we added Transportation as a necessity of life. I'd like to add Communications (if we haven't already). People's need to communicate is going to diminish just b/c World Con is tanking. (But it doesn't hurt to be an insider).

Glen,

We don't so much daytrade to make money but to mitigate risk. (At least I do).

Why would you need to daytrade to mitigate risk? Couldn't you just buy an index fund and some protective puts and call it a year?

Glen,

You sure could. And many do. One thing I've found over the years is that when you have a long term position in a portfolio that has done well after no time at all we begin to take this performance for granted. By trading a shorter term position with a higher cost basis it really holds your feet to the fire. You ARE interested in every aspect of the company! Think of all the guys (intitutional or otherwise) that considered say Lucent their primary growth engine? By the time they took an active interest in what was going on at the company it was all over. Nothing motivates me like having an "active" stake. For me it's all about entry points. From what you've described you watch these closely as well.

There are a lot of condos being built in Cupertino. I do not know how it will affect the SFH market. We will see.

It will be interesting to see how the new "poorer" condo purhcasers and their kids affect the touted Crapatino schools. I'll be the SFR owners are not all that happy with this.

It will be interesting to see how the new “poorer” condo purhcasers and their kids affect the touted Crapatino schools. I’ll be the SFR owners are not all that happy with this.

Well, "poorer" condo purhcasers are still better than jealous bitter renters, right? ;)

"Keep your stinking kids off our school you damn dirty renter."

TN,

A bit sloppy on my part, but I lump in 0-3 month swing traders in with daytraders.

I agree that "day-traders" are more than just those who close out their position every day. My own definition is even a bit sloppier than yours. For me whether one is a daytrader depends upon their intent, discipline, and knowledge of their chosen strategy.

For example, a true daytrader scalper who just sits there all day playing twitch on spreads is one extreme. The mutual fund trader is the other. But somewhere in between you have private, semi-private, family, investment circle, and upstart hedge fund types who may fall into either group depending. There are hedge fund traders who are not better than a 3/5 swing trader, only with more money for protective puts/calls. There are individuals investing for themselves and their families who are more knowledgeable, more disciplined and more successful than some reckless hedge funds.

“Keep your stinking kids off our school you damn dirty renter.”

:lol: When I read that, I heard it in Charlton Heston's voice.

Conor,

I bought the LEAPS because I was reasonably confident that DHI would not fall much further than $20 and that there was a reasonably good chance that DHI would be above $30 at some point in the next 2.5 years.
I was willing to wait the 2.5 years, if necessary. And I was willing to lose 100% of my investment if I was wrong. (Note to other micro-investors: I'm pretty sure you can deduct up to $3K in capital losses to offset ordinary income. So if you lose out on a small bet on options, your after tax losses should be less than your pre-tax loss. To some extent you can time the market to take advantage of this by selling your loser LEAPs and holding your winners.)

I took profits because it is rare that I can make 25%, after expenses, in less than 2 weeks. But I'm still reasonably confident that the company will do well in the long term. If the stock drops back below my entry point ($20), I will seriously consider getting back into the LEAPS.

Overall, my investments have done fairly well relative to the market. The only reason I'm experimenting with options at all is that I am tired of my 100% long only portfolio of value stocks and I wanted to try to juice my returns a little by using a manageable amount of leverage. Options are really the only meaningful way I know of (other than homeownership, which is unappealing to me in the current market) for a little guy to get some serious leverage.

King_Cobra,

Great. Now serial refinancers can go almost indefintely without having to make a payment! I'm all for streamlining and implementing technology that makes sense but can you imagine how much "churn" a system like this can create? It's the equivelant of having your "Equity Liberator" tied to an ETrade account. With "margin pre-approval"!