Valuing stock options

(This may be an advanced topic.)

Most of the time, the Black-Scholes model will come very close to the “correct” price of an option (whatever it is).  Fundamentally, how the Black-Scholes model works is this:

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My investing shortcuts/heuristics

A list of shortcuts I use when screening/sifting through stocks and stock ideas.

Oil and Gas 101

Here’s what I know about the sector so far:

1. The independent oil & gas sector as a whole has a poor track record of profitability.
2. Reserve estimation is an educated guess.  Small changes in assumptions can have a massive effect on the economics of a reservoir.
3. One common pattern in the oil & gas sector is for a company to overstate its reserves and to continually raise capital.  See #1.
4. PUD (proven undeveloped) reserves are especially prone to abuse (overstatement of reserves).
5. Most of the value creation in the industry comes from exploration.  Exploration is the most open-ended and uncertain aspect of E&P (exploration and production).
6. Technology is another area of value creation.
7. Historically, debt has often been dangerous to the companies which use it.
8. Opportunities are the greatest when overly leveraged companies are forced to sell.

Leveraged ETFs- a market inefficiency

Here’s how the inefficiency works.  Every day, leveraged ETFs have to trade to maintain a constant level of leverage.  The transaction costs of trading every day is very high since they often trade illiquid derivatives or swaps.  It’s not like they trade liquid products such as S&P 500 futures.  In a year with high volatility, a leveraged ETF could lose 20% of its net asset value to transaction costs.

One way to play this inefficiency is to short both the bull and bear versions of a leveraged ETF.  If you want, you could also rebalance the ETFs frequently so that you have no risk from a trending market.  (In a trending market, one ETF might go up several times while the other goes down close to 0.)  Unfortunately, many people seem to have caught on to this trade as leveraged ETFs frequently have borrow costs in the mid single digits.

I personally do not recommend this arbitrage trade… the risk/reward does not seem compelling to me considering the borrow costs.

Reading round-up: books on mining

Here are the resources that I found the most helpful for understanding mining…

Overview of the semiconductor industry

I’m trying to expand my circle of competence to include the semiconductor industry.  Here’s how I see the industry so far.

Reading NI 43-101 reports: Data verification

Typically in a NI 43-101 technical report, the author will re-assay the drill core to verify the integrity of the assay results.  This is to help spot Bre-X style frauds where somebody may be ‘salting’ a crushed sample with gold.

Here’s the crazy thing:

1. Some people still commit blatant fraud… even though they will eventually be caught.
2. Often in technical reports, there are issues with data verification and the author doesn’t care.