What this means is that everyone is piling into the put options, driving up their price. In theory, options should provide substantial leverage, meaning that a 30% drop in the share price would result in a gain of much greater than 30%. But I ran several scenario analyses on Rino puts and found that even if the share price were to drop by 30%, I would make less than 30% -- this is simply due to the option being overpriced. Herein lies the fundamental problem with put options: timing is absolutely everything.
If you know of a terrible company that is not yet in crisis, the put options are probably very cheap and could provide a massive return. But if the crisis doesn't happen quickly enough, the option loses 100% of its value. Once a company enters crisis mode, such as Rino, investors can be comfortable with timing but then the price inevitably gets overbid making the options unattractive.
As a final thought, what happens to a put option which has value but that is "out of the money" and then the stock is halted ? You can't exercise or sell it so does it expire worthless even when you had made a profit ? I have asked five different people and gotten five different answers. In crisis situations, there is a very real possibility of a stock halt and I wouldn't want to learn the answer to this the hard way. (Incidentally, I am scheduled to speak to several other option traders this week and I will let readers know when I find out the ultimate answer.) If you want to play the smart odds, stay away from put options. On average and over time they are a losing trade.
Lesson #5: Buying on the dips can be the homerun of a lifetime or the kiss of deathPrior to the announcement by Rino's auditor I received a number of emails asking if this could be another homerun buy-on-the-dips play. My answer was a categorical no. With Rino, even before the Frazer announcement, the evidence for fraud was too compelling for several reasons.
Lesson #6: Cash per share is not a "floor price" for stocksWith ONP, Muddy Waters provided a share price target of "less than one dollar," but they did not provide any rationale for it. The stock bottomed at $4 made substantial moves up since then. As a result, I think some people question the credibility of the $2.45 share price target. Muddy Waters stated that their target share price for Rino is $2.45 because this is the amount of cash per share on the company's books, so at least now they are providing some methodology.
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