Monday, August 27, 2007

End of the World Imminent: Details at Five

The conspiracy theorists continue their panic over derivatives trading. Alex Jones' has another article on the subject:

A mystery trader risks losing around $1 billion dollars after placing 245,000 put options on the Dow Jones Eurostoxx 50 index, leading many analysts to speculate that a stock market crash preceded by a new 9/11 style catastrophe could take place within the next month.

These people are so economically illiterate that he then quotes a blogger citing an entirely different alledged series of trades:

"The sales are being referred to by market traders as "bin Laden trades" because only an event on the scale of 9-11 could make these short-sell options valuable," reports financial blogger Marc Parent. Dow Jones Financial News first reported on the story.

Of course if you read the Dow Jones story, which actually does reference the right trades, you will find the explanation has nothing to do with conspiracy theories:

The identity of the investor is unknown but market sources speculated it was either a large hedge fund hedging itself against deepening losses, or a long-only fund manager pressing the panic button to protect its gains.

I cannot find it in any financial source, so I am not sure how these conspiracy theorists come up with "risks losing around $1 billion dollars". That would mean each option, cost over $4000. That is a lot of money for an option that is way out of the money. Any first year finance student will learn about Black-Scholes, which states that the value of an option decreases the farther away from the strike price you are. Nobody is going to risk $1 billion for a remote chance at making a maximum of EUR 6.9 billion, especially when even that is based on the unlikely event that all stocks will go to zero.

Incidently, this idea that they repeat that speculators made a killing off of puts on airline stocks before 9/11 is mostly urban legend. The amounts were actually quite modest, and the trades, although above average were nowhere near unprecendented. Alan Poteshman, from the University of Chicago has an interesting paper on the subject, although I don't agree completely with his methodology or conclusions.