Percentage of Options
I can remember when I
testified before the Senate Finance Committee in 1934. I was, of
course, younger and less experienced, but I had been in the option
business for fifteen years at that time and, although the business
then was different from what it is now, I knew it well. I had already
appeared before Congressman Sam Rayburn's committee in the House
and now I had been selected by the Put and Call Brokers and Dealers
Association to represent the industry before the Senate.
There I was in a big
room with a "mike" before me; the senators who were on the committee
sat at a large table, and there were about three hundred spectators
and witnesses in the room. I was facing Senator Fletcher, Ferdinand
Pecora, Ben Cohen, and "Tom" Corcoranthe framers of the Securities
Act. "Tom the Cork," as Mr. Corcoran was called, had explained the
bill, paragraph by paragraph, and when he came to the part dealing
with options, he said, in substance, "Not knowing the difference
between good options and bad options, for the matter of convenience
we strike them all out." Don't hold me to the exact words, but that
was the essence of it and it was my job to show the difference.
I think I did a good job.
As I have said, the business
of options was turned over to the newly formed SEC and, sitting
before this body, I explained the difference between "the options
in which we deal which are publicly offered and openly sold for
a consideration, and the manipulative options that had been secretly
given, for no fee but for manipulative purposes."
To get back to the reason for the heading of this section, Mr. Pecora,
after other questions, asked me the percentage of options that were
exercised, and I told him that about 12½ per cent were exercised
at or before expiration. Remember that in those days options were
mostly of 30-day duration written not "at the market" price, but
away from the market.
In those days we also
negotiated options for 2 days, 7 days, and 15 days. (More about
this later.) But stock prices were high in the twenties (as we later
found out), and with General Motors over $300, U.S. Steel over $325,
and many stock in the hundreds, it was quite common to trade options
20, 30, or even 40 points away from the market for 30 days.
Mr. Pecora then asked something like this: "If only 12½ per cent
are exercised, then the other 87% per cent of the people who bought
options have thrown their money away?" "No, sir," I said, "if you
insured your house against fire and it didn't burn down you would
not say that you had thrown away your insurance premium."
The same thing is true about options. Today the 30-day option is
a very small percentage of our business, and the longer contracts
in which we now deal constitute a very much greater percentage of
options exercised. However, whether an option is exercised at expiration
or not, it does supply considerable protection and advantage to
the holder during its life.
Just one short example: A man owns stock that cost him 40 and is
now selling at 70. He protects that profit with a 90-day Put at
70, for which he pays $400. During the life of the option, the stock
advances to 80, and Mr. Trader allows his Put option to lapse. Instead
of his selling his stock at 70, the protection afforded by the Put
provides him with the incentive or courage to hold the stock for
an additional 10 points profit without risking the profit he already
The option isn't exercised,
but would you say that Mr. Trader "threw away" the premium that
he paid for the Put option, or did he have protection during the
life of his option for his full profit and against an unlimited
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