Short Box Explained

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Short Box

The short box is an arbitrage strategy that involves selling a bull call spread together with the corresponding bear put spread with the same strike prices and expiration dates. The short box is a strategy that is used when the spreads are overpriced with respect to their combined expiration value.

Short Box Construction
Sell 1 ITM Call
Buy 1 OTM Call
Sell 1 ITM Put
Buy 1 OTM Put

Limited Risk-free Profit

Basically, with the short box, the arbitrager is just buying and selling equivalent spreads and as long as the net premium obtained for the selling the two spreads is significantly higher than the combined expiration value of the spreads, a risk-free profit can be captured upon entering the trade.

Expiration Value of Box = Higher Strike Price – Lower Strike Price

Risk-free Profit = Net Premium Received – Expiration Value of Box

Example

Suppose XYZ stock is trading at $55 in July and the following prices are available:

  • AUG 50 put – $2
  • AUG 60 put – $7
  • AUG 50 call – $7
  • AUG 60 call – $1.50

Selling the bull call spread involves shorting the AUG 50 call for $700 while buying the AUG 60 call for $150. The premiums collected from the sale of the bull call spread is: $700 – $150 = $550

Selling the bear put spread involves shorting the AUG 60 put for $700 while buying the AUG 50 put for $200. The premiums collected from the sale of the bear put spread comes to: $700 – $200 = $500

Together, the net premium received for shorting the box is: $550 + $500 = $1050

Since the total price of the box spread is more than its expiration value, a riskfree arbitrage is possible using the short box strategy. Selling the box will result in a net premium received of $1050. It can be observed that the expiration value of the box spread is indeed the difference between the strike prices of the options involved. The expiration value of the box is computed to be: ($50 – $40) x 100 = $1000.

If XYZ remain unchanged at $55, then the AUG 50 put and the AUG 60 call expire worthless while both the AUG 50 call and the AUG 60 put expires in-the-money with $500 intrinsic value each. So the total value of the box at expiration is: $500 + $500 = $1000.

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Suppose, on expiration in August, XYZ stock rallies to $60, then only the AUG 50 call expires in-the-money with $1000 in intrinsic value. So the box is still worth $1000 at expiration.

So what happens when XYZ stock plunges to $50? A similar situation occurs but this time it is the AUG 60 put that expires in-the-money with $1000 in intrinsic value while all the other options expire worthless. Hence, the box is still worth $1000.

As the trader had collected $1050 for shorting the box, his profit comes to $50 after buying it back for $1000 on expiration date.

Note: While we have covered the use of this strategy with reference to stock options, the short box is equally applicable using ETF options, index options as well as options on futures.

Commissions

As the gains from the short box is very minimal, the commissions payable when implementing this strategy can often wipe out all of the profits. Thus, one have to take into careful consideration the commissions involved when contemplating the use of this strategy.

If you make multi-legged options trades frequently, you should check out the brokerage firm OptionsHouse.com where they charge a low fee of only $0.15 per contract (+$4.95 per trade).

Long Box

The short box is profitable when the component spreads are overpriced. When the spreads are underpriced, the converse strategy known as the long box, or simply box spread, is used instead.

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Box Spread

A box spread is an options arbitrage strategy that combines buying a bull call spread with a matching bear put spread. It is commonly called a long box strategy. These vertical spreads must have the same strike prices and expiration dates.

Key Takeaways

  • A box spread is an options arbitrage strategy that combines buying a bull call spread with a matching bear put spread.
  • A box spread’s payoff is always going to be the difference between the two strike prices.
  • The cost to implement a box spread, specifically the commissions charged, can be a significant factor in its potential profitability.

Understanding Box Spread

A box spread (long box) is optimally used when the spreads themselves are underpriced with respect to their expiration values. When the trader believes the spreads are overpriced, he or she may employ a short box, which uses the opposite options pairs. The concept of a box comes to light when one considers the purpose of the two vertical, bull call and bear put, spreads involved.

A bullish vertical spread maximizes its profit when the underlying asset closes at the higher strike price at expiration. The bearish vertical spread maximizes its profit when the underlying asset closes at the lower strike price at expiration. By combining both a bull call spread and a bear put spread, the trader eliminates the unknown, namely where the underlying asset closes at expiration. This is so because the payoff is always going to be the difference between the two strike prices at expiration.

If the cost of the spread, after commissions, is less than the difference between the two strike prices, then the trader locks in a riskless profit, making it a delta-neutral strategy. Otherwise, the trader has realized a loss comprised solely of the cost to execute this strategy.

Building a Box Spread

To construct a box spread, a trader buys an in-the-money (ITM) call, sells an out-of-the-money (OTM) call, buys an ITM put and sells an OTM put. In other words, buy an ITM call and put and then sell an OTM call and put.

Given that there are four options in this combination, the cost to implement this strategy, specifically the commissions charged, can be a significant factor in its potential profitability. Complex option strategies, such as these, are sometimes referred to as alligator spreads.

Example of a Box Spread

Intel stock trades for $51.00. Each options contract in the four legs of the box controls 100 shares of stock. The plan is to:

  • Buy the 49 call for 3.29 (ITM) for $329 debit per options contract
  • Sell the 53 call for 1.23 (OTM) for $123 credit
  • Buy the 53 put for 2.69 (ITM) for $269 debit
  • Sell the 49 put for 0.97 (OTM) for $97 credit

The total cost of the trade before commissions would be $329 – $123 + $269 – $97 = $378. The spread between the strike prices is 53 – 49 = 4. Multiply by 100 shares per contract = $400 for the box spread.

In this case, the trade can lock in a profit of $22 before commissions. The commission cost for all four legs of the deal must be less than $22 to make this profitable. That is a razor-thin margin, and this is only when the net cost of the box is less than the expiration value of the spreads, or the difference between the strikes.

There will be times when the box costs more than the spread between the strikes so the long box would not work. However, a short box might. This strategy reverses the plan and sells the ITM options and buys the OTM options.

Short Sell Against the Box

What is a Short Sell Against the Box?

A short sell against the box is the act of short selling securities that you already own. This results in a neutral position where your gains in a stock are equal to the losses. For example, if you own 100 shares of ABC and you tell your broker to sell short 100 shares of ABC, you conducted a short sale against the box.

Understanding Short Sell Against the Box

A “short sell against the box” is also known as “shorting against the box.” Sellers use this technique when they do not actually want to close out their position on a stock. The strategy is generally used by investors who believe the stock is due for a fall in price, but do not wish to sell because they believe the fall is temporary and the stock will rebound quickly.

Restrictions

The Securities and Exchange Commission (SEC) and the Financial Industry Regulatory Authority (FINRA) regulate when sellers are allowed to sell short. For instance, in February 2020, the SEC adopted the alternative uptick rule, which restricts short selling when a stock drops more than 10% in one day. In that situation, those engaging in a short sale (even if the shares are already owned) usually must open a margin account.

An alternative strategy is buying a put option, which gives investors the right, but not the obligation, to sell the shares. Buying a put option has a per-share cost associated with it, which is comparable to a short sale transaction.

Key Takeaways

  • A “short sell against the box” is a strategy used by investors to minimize their tax liabilities by shorting stocks they already own.
  • While it was popularly used by traders in the past, “short sell against the box” has increasingly become a restricted practice after an SEC and FINRA crackdown.

Previous Motivation

Prior to 1997, the main rationale for shorting against the box was to delay a taxable event. According to tax laws that preceded that year, owning both long and short positions in a stock meant that any papers gains from the long position would be removed temporarily due to the offsetting short position. The net effect of both positions was zero, meaning that no taxes had to be paid.

The Taxpayer Relief Act of 1997 (TRA97) no longer allows short selling against the box as a valid tax deferral practice. Under TRA97, capital gains or losses incurred from short selling against the box are not deferred. The tax implication is that any related capital gains taxes will be owed in the current year.

Example of Shorting Against The Box

For example, say you have a big paper gain on shares of ABC. You think that ABC has reached its peak and you want to sell. However, there will be a tax on the capital gain. Perhaps the next year you expect to make a lot less money, putting you in a lower bracket. It is more beneficial to take the gain once you enter a lower tax bracket. To lock in your gains this year, you short the ABC’s shares. As is customary, you borrow shares from a broker on the bet that ABC’s stock price will rise. When your bet comes true, you return the shares that you already owned before the short to the broker, thereby circumventing the taxable event.

Short Box (Arbitrage) Options Trading Strategy Explained

Published on Thursday, April 19, 2020 | Modified on Sunday, July 21, 2020

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Short Box (Arbitrage) Options Strategy

Strategy Level Advance
Instruments Traded Call + Put
Number of Positions 4
Market View Neutral
Risk Profile None
Reward Profile Limited
Breakeven Point

Short Box is an arbitrage strategy. It involves selling a Bull Call Spread (1 ITM and I OTM Call) together with the corresponding Bear Put Spread (1 ITM and 1 OTM Put), with both spreads having the same strike prices and expiration dates.

The short box strategy is opposite to Long Box (or Box Spread). It is used when the spreads are overpriced with respect to their combined expiration value.

This strategy is the combination of 2 spreads (4 trades) and the profit/loss calculated together as 1 trade. Note that the ‘total cost of the box remain same’ irrespective to the price movement of underlying security in any direction. The expiration value of the box spread is actually the difference between the strike prices of the options involved.

The usual box spread look like as below for NIFTY current index value as 10550 (NIFTY Spot Price):

Short Box Orders

Orders NIFTY Strike Price
Bull Call Spread Sell 1 ITM Call NIFTY18APR10400CE
Buy 1 OTM Call NIFTY18APR 10700CE
Bear Put Spread Sell 1 ITM Put NIFTY18APR10700PE
Buy 1 OTM Put NIFTY18APR10400PE
  • Call Spread meaning 2 calls, one ITM and one OTM.
  • Put Spread meaning 2 puts, one ITM and one OTM.
  • ITM is ‘In the money’ and OTM is ‘Out of the money’. For Nifty Spot Price at 10550, the 10400 Call Option is ITM and 10700 Call is OTM.
  • Arbitrage strategy is a way to earn small profits with very little or zero risk. In this a trader buys the call and put have the same strike value and expiration The resulting portfolio is delta neutral.

As you see in the above table, this is a delta neutral strategy. The trader is selling and buying equivalent spreads. As long as the price paid for the box is significantly higher than the combined expiration value of the spreads, a riskless profit can be earned. We will discuss this in detail in an example below.

As the profit from the short box is small. In many cases it is offset by the expenses i.e. brokerage and taxes. It’s very important to consider the trading cost (brokerage, fee, taxes etc.) before trading in this strategy.

When to use Short Box (Arbitrage) strategy?

Being risks free arbitrage strategy, this strategy can earn better return than earnings in interest from fixed deposits for any investor. The earning from this strategy varies with the strike price chosen by the trader. i.e. Earning from strike price ‘10400, 10700’ will be different from strike price combination of ‘9800,11000’.

The short box strategy should be used when the component spreads are overpriced in relation to their expiration values. In most cases, the trader has to hold the position till expiry to gain the benefits of the price difference.

Note: If the spreads are underpriced, another strategy named Long Box (or Box Spread) can be used for a profit.

This strategy should be used by advanced traders as the gains are minimal. The brokerage payable when implementing this strategy can take away all the profits. This strategy should only be implemented when the fees paid are lower than the expected profit.

Example

Short Box Example 1

Let’s take a simple example of a stock trading at в‚№55 (spot price) in June. The option contracts for this stock are available at the following premium:

  • July 50 call – в‚№7
  • July 60 call – в‚№1.50
  • July 50 put – в‚№2
  • July 60 put – в‚№7

Lot size: 100 shares in 1 lot

Sell a Bull Call Spread = Sell ‘July 50 call’ + Buy ‘July 60 call’

Bull Call Spread Cost = (в‚№7*100) – (в‚№1.5*100) = в‚№550

Sell Bear Put Spread = Sell ‘July 60 put’ + Buy ‘July 50 put’

Bear Put Spread Cost = (в‚№7*100) – (в‚№2*100) = в‚№500

The total cost of the box spread is: в‚№500 + в‚№550 = в‚№1050

The expiration value of the box is computed to be: (в‚№60 – в‚№50) x 100 = в‚№1000

Profit: в‚№1050 – в‚№1000 = в‚№50

Net Profit = в‚№50 – Brokerage – Taxes

In above example, since the total cost of the box spread is higher than its expiration value, a risk-free arbitrage is possible with the short box strategy. Now let’s discuss about the possible scenarios:

Scenario 1: Stock price remain unchanged at в‚№55

The July 50 put and the July 60 call expire worthless while both the July 50 call and the July 60 put expires in-the-money with в‚№500 intrinsic value each. So the total value of the box at expiration is: в‚№500 + в‚№500 = в‚№1000.

Scenario 2: Stock price reaches to в‚№60

Only the July 50 call expires in-the-money with в‚№1000 in intrinsic value. So the box is still worth в‚№1000 at expiration.

Scenario 3: Stock price falls to в‚№50

A similar situation as scenario 2 happens but this time it is the July 60 put that expires in-the-money with в‚№1000 in intrinsic value while all the other options expire worthless. Still, the box is worth в‚№1000.

In all the possible scenarios, the box worth remains at в‚№1000 on expiry resulting in profit of в‚№50.

Short Box Example 2

Let’s take an example of NIFTY Options which is traded in lot size of 75.

Short Box Example for NIFTY Options

Strike Price Premium (в‚№) Premium Paid (в‚№)
(Premium * Lot Size of 75)
Bull Call Spread Sell 1 ITM Call 10400 -182.55 -13691.25
Buy 1 OTM Call 10700 20.35 1526.25
Bear Put Spread Sell 1 ITM Put 10700 -174.00 -13050.00
Buy 1 OTM Put 10400 28.00 2100.00
Total 22072.50
Bull Call Spread Cost =(-13691.25+1526.25) -12165.00
Bear Put Spread Cost =(-13050.00+2100.00) -10950.00
Total Box Spread Cost -23115.00
Expiration value of the box =(10400-10700)*75 -22500.00
Profit =(23115.00-22500.00) 615
Brokerage + Taxes =8 trades * в‚№20 + taxes в‚№200
Net Profit в‚№415 (1.8%)

Note the Net Profit changes when you buy options at different the strike price using the same strategy.

Market View – Neutral

The market view for this strategy is neutral. The movement in underlying security doesn’t affect the outcome (profit/loss). This arbitrage strategy is to earn small profits irrespective of the market movements in any direction.

Actions

  • Buy Call Option 2
  • Sell Call Option 1
  • Buy Put Option 2
  • Sell Put Option 1 (2>1)

Say for XYZ stock, the component spread is relatively overpriced than its underlying. You can execute execute Short Box strategy by selling 1 ITM Call and 1 ITM Put while buying 1 OTM Call and 1 OTM Put. There is no risk of loss while the profit potential would be the difference between two strike prices minus net premium.

Risk Profile of Short Box (Arbitrage)

The Short Box Spread Options Strategy is a relatively risk-free strategy. There is no risk in the overall position because the losses in one spread will be neutralized by the gains in the other spread.

The trades are also risk-free as they are executed on an exchange and therefore cleared and guaranteed by the exchange.

The small risks of this strategy include:

  1. The cost of trading – Some brokers charges high brokerage/fees, which along with the taxes could make the overall loss-making trade.
  2. The box spread can be liquidated by an offsetting transaction easily and transparently on an exchange with minimal loss/profit.

Reward Profile of Short Box (Arbitrage)

Limited

The reward in this strategy is the difference between the total cost of the box spread and its expiration value. Being an arbitrage strategy, the profits are very small.

It’s an extremely low-risk options trading strategy.

Understanding Pickup Truck Cab and Bed Sizes

Here in North America, we love to mix and match everything we buy. T-bone or sirloin cooked medium-rare or medium? Espresso or Americano? Grilled or crispy chicken burger with medium or large drink? You get the idea. We always make choices when buying things and when it comes to trucks, it’s no different than going into your favorite coffee shop and ordering a drink. You have hundreds of choices and with a pickup, you’re stuck with it for a while so you have to get it right the first time.

Before diving into the different cabs and beds, it’s worth noting that they are also available in 2-wheel-drive and 4-wheel-drive and also light duty and heavy duty. Light duty trucks (1500) are generally capable of payloads ranging from 1500 to 3000 lbs and can tow up to 12,000 lbs. Usually these trucks are more common and suit most people’s needs for towing or carrying equipment. Heavy duty trucks (2500 and 3500) usually have payload capacities closer to 6500 lbs and can tow up to 20,000 lbs. These type of trucks are for individuals who carry or town really heavy equipment on a daily basis.

Regular or Standard Cab

These are the “traditional” looking pickups with just 2 doors and a single row of seats. Usually there is enough seating for 3 occupants and little to no space in behind the seats for storage.

An extended cab has four doors but the rear doors are rear-hinged, that is, they open backwards like suicide doors found on some classic vehicles. On trucks, these type of doors can only be opened when the adjacent front door is opened. Usually there is a small seat in behind the front row bench or extra space for cargo.

Double cabs begin to look more like the “sedans of the truck world”. They have 4 doors that open like conventional doors would. However the rear doors are noticeably smaller than the front doors and space in the rear seats is a bit tight for taller adults. This a popular size for most people as it offers good interior room while the shorter doors keep the overall length of the pickup truck at a reasonable size.

Crew cabs are nearly identical to double cabs except the difference being that there is a lot more leg room in the back seats. The rear doors are also noticeably larger in size however at a glance, it is easy to confuse a crew cab to a double cab or vice versa.

Generally there are 3 different sizes for pickup truck beds. Short, Standard, or Long. Generally a short bed is approximately 5’8” long, a standard bed is 6’5” long, and a long bed is 8’ long but these numbers vary by a few inches from manufacturer to manufacturer. Without actually getting a tape out and measuring the length of a truck bed, it is difficult to know what size it is just by looking at it. However an (somewhat) easy way of telling what size bed a truck has by looking at it, is to look at the placement of the gas filler flap. On the 2020 Chevrolet Silverado for example, if it is right on the rear fender, then that is a short box. If it is next to it, then it is a standard box. And if there’s a noticeable gap between the fuel filler flap and the rear fender, then it is a long box.

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