Friends,
Recently, I’ve been writing a lot about option funding — implied rates, reversal/conversions, and financing stock positions, and even a touch on early exercise. The posts from earliest to most recent:
You can’t really overstate how important this is, especially to pros.
On the same theme, Stanford lecturer and HF manager Kevin Mak published an outstanding and detailed post:
Holding a high cost to borrow stock? Here's how to collect the borrow fees using the options market (link)
I want to quote a few key parts:
I cannot stress enough that if you want to be competitive in capital markets, you cannot afford to make these types of mistakes and forgo this return.
Kevin is quite blunt:
If you think this is too complicated to follow, to be blunt, you likely do not have the mental fortitude to have alpha in markets (you may still make money via luck). If you CAN figure this out, but couldn’t be bothered to spend time on it, that’s probably fine, but I suggest staying away from holding a stock with a high cost to borrow. If you insist on holding high cost to borrow stocks, and "not worry" about collecting the free borrow/lending fees, you really should be playing triple-zero roulette, or splitting every pair of 10's at Caesar's Palace instead because that would have a lower edge, and be way more fun.
I suggest that by using options to refinance your position, you “inherit the market maker’s funding rates” which are almost certainly better than yours, whether you are long or short.
This is Kevin’s way of saying this which might land better for some (emphasis mine):
If this is arbitrage, it shouldn’t exist right? This unique situation is you “arbitraging” your own holdings. You’re basically holding an inefficient asset since you can’t lend it (or collect the lending fees) so this lets you own it in a more efficient manner. Nobody is going to compete away this arbitrage because nobody can access your holdings except you. In fact, it's the arbitrage happening in the open markets which is pushing the value of synthetic long to be equal to the long stock (and collect borrow) position.
Kevin wisely tucks all the brain damage into the endnotes to not ruin the flow and central message of the post. I love his intro to them:
This is a beginner treatise on a synthetic long position and covers ~98% of what you need to know about it. The last 2% I could write 25,000 words about and not be finished.
In the spirit of the endnotes, I want to share a recent real-world example of a scenario that resides in that annoying “2%”