Any Economists in the Crowd?

Comments

• highhopes Posts: 1,358MI6 Agent

  January 2007 edited January 2007

  Smoke_13 wrote:

  I saw CR for the second time recently and I got to thinking....
  
  So, LeChiffre tried to execute a short call option on the stocks of the Airline (cant think of its name -sorry). He hoped that by destroying the prototype, stock values in the airline would crash, and by using the short call option he would make lots of money. I understand that completely.
  
  However, how did the fact that the prototype not blowing up cause LeChiffre to lose all that money? I believe (unless I'm mistaken) that when trying to execute a "short call" option in the stock market if value of said stock goes up instead of down all your broker requires is that you are able to come up with the additional monies to equal 10% of the stock value. For example, if you are looking to short call $100,000 worth of stock your broker wants you to come up with $10,000 to hold the stock. If the stock value goes up to $110,000 instead of down like you hoped, your broker would want you to put an extra $1,000 down.
  
  I'm sure the value in that airlines stocks would not have skyrocketed just because the prototype didnt blow up. At least not to the point that LeChiffre would have lost everything. All the prototype not blowing up means to me is that LeChiffre would not have gotten the return he was hoping to get.
  
  Am I right, or just plain confused? If I am right, how did LeChiffre lose all the money?

  
  I'm not an economist. But here's a good primer on going short:
  
  http://www.investopedia.com/university/shortselling/
  
  What you're doing, basically, is selling someone something you don't own. For example, I'm going to sell you a stock that is currently selling at $100 for half that -- $50. I don't actually own the stock. But I believe it will drop to $30. So by selling it to you, I make $20, if it does indeed drop. If it doesn't, or if it rises, I still have to give you the stock. In order to do that, I have to buy it at the current, higher price.
  I'm not sure I follow your scenario, but a broker is basically just a middleman between the buyer and the seller. The buyer is going to want his stock. And the only way he's going to get it from you is if you buy it for the higher price and give it to him.
• Smoke_13 Kitchener Ont CanadaPosts: 285MI6 Agent

  January 2007

  Thanks Double H.
  
  I forgot, but to get out of the short call you do have to eventually buy the stock. That's when the money is either made or lost. But, I also believe if the stock value does rise instead of drop, you dont have to buy out right away. If you can ensure that as an investor you can keep giving your broker 10% of the stock's market value you can hang onto it in hopes that it will eventually drop.
  
  LeChiffre probably bought as much stock as he could, with as little down as possible (leveraged buying -I think?) and when the value continued to rise rather than drop he could not come up with the 10% to hold the stock, and was then forced to sell -thats when he lost the 110ish million.
• GiovannaDaina2007 Posts: 6MI6 Agent

  January 2007 edited January 2007

  If you short a stock generally you have to repay the number of shares of the stock - not the money, but the shares. Usually you have to repay it either when your account dips below a certain pre-determined limit (in some cases the calls are set by regulations and the brokers can't work with you on it) or when your broker calls it - and you have to pay it regardless of whether the price of the shares of the stock have gone up or down.
  
  It is definitely not a 10% repay in any market that I know of, although some brokerages won't allow you to even short or trade on margin if you do not have at least 10% of the value in your account (This could be why Le Chiffre has to first get that cash before the brokerage will allow him such a massive short). If you are a good customer and you lose on margin some will loan you more and come up with various other ways to help you repay the stock. In some situations it is regulated and you simply have to pay.
  
  Som also impose additional fees if you short or otherwise borrow on margin and there is a call.
  
  Either of these could be the 10% that you are thinking of.
  
  But shorting can make and lose a LOT of money. Most arbitrage is based on shorting. It is increasingly coming under further scrutiny and potential regulation.