Guys,

It doesn't work. Otherwise, Madoff would still have some of that $50 billion he gave away.
It is truly amazing to me that someone can get to a level where they manage tens of billions of dollars and STILL do not understand that dividends are not free money and that you can't make money with them.

Classic case of someone making money in spite of himself rather than because of himself. I guess his market luck ran out 10 years ago when the evidence of the ponzi scheme first surfaced, and the rest of his luck ran out this year.

You're going to see a lot of dividend gimmicks surface in the news, the general media, and other less scrupulous sources. Be careful. If there were free money to be made with dividends, why would anyone do anything else?

Alex Mendoza

Arnie,

Bernie Madoff's Fairfield Sentry fund WAS too good to be true; No wonder you didn't understand how it generates profits.
This was the first Google hit for "how split-strike conversion strategy works." If only more were as critical...

Arnie

The way I invision this working is thus:
The manager buys the stocks in the OEX that are paying the best dividends. He adds up the costs, lets pick a number, say $300,000.
He looks at a skew graph (maybe for several different months and strikes) and picks the OTM puts that are cheap. He sells enough of the OEX puts to cover the $300,000. He adds up the cost of the puts and determines how many OTM calls (again overpriced calls, picked from a skew graph. He would probably want to sell the calls from the same month as the puts) he must sell to cover the cost of the puts.

At expiration of the options he would have to decide the course of action depending on the price of the stock, dates the next dividends would be due, the outlook for the stock. If there is a loss in the stock the puts should be in the money enough to compensate for the loss. He could sell the stock or hold on to it and start a new cycle.

It would be interesting to paper trade this and see how it turns out.

barney

Year Jan Feb March April May June July Aug Sept Oct Nov Dec YTD
1994 1.52 1.82 .51 .29 1.78 .42 .82 1.88 -.55 .66 8.6%
1995 .92 .76 .84 1.69 1.72 .50 1.08 -.16 1.70 1.60 .51 1.10 14.2%
1996 1.49 .73 1.23 .64 1.41 .22 1.92 .27 1.22 1.10 1.58 0.48 13.5%
1997 2.45 .73 .86 1.17 .63 1.34 .75 .35 2.39 0.55 1.56 .42 14.5%
1998 .91 1.29 1.75 .42 1.76 1.28 .83 .28 1.04 1.93 .84 0.33 13.8%
1999 2.06 0.17 2.29 .36 1.51 1.76 .43 .94 .71 1.11 1.61 0.39 14.6%
2000 2.20 .20 1.84 .34 1.37 .80 .65 1.32 .25 .92 .68 .43 12.0%
2001 2.21 .10 1.18 1.32 .32 .23 .44 1.00 .73 1.28 1.21 .19 10.9%
2002 .03 .60 .46 1.16 2.60 .26 2.83 -.06 .13 8.3%

Above is a performance summary of the strategy. How is it possible to generate so many positive months with almost no losing month? When would someone enter and close out such a position (e.g. when call prices are high and puts are relatively low?)?

Many thanks for your previous response to my questions!
Arnie

This is a basket of stocks with a collar. The 25 or 30 stocks are apparently what the manager considers to be the best stocks in the OEX index (S&P 100). He then buys puts for down side protection. He pays for the puts by selling covered calls. You say the calls are OTM, the basket of stocks has room to move up to the strike price of the calls. That would be the profit. Of course this depends on the premiums of the calls being enough to pay for the puts. Perhaps he uses the call premium as a guide as to which stocks to select out of the OEX index. This might be a good safe strategy but if individuals use it they might have to pool their money. Of course the 25-35 stocks would have to go up to create profit if they didn't go up there would be no loss. If anyone is industrious enough to analyze this strategy I think it might work.

barney

Arnie,

This sounds like a conversion/reversal strategy. You can find explanations of this in McMillan, Natenberg and Cottle. Probably Cottle has the easiest to understand discussion. You can find a link to his book in other forums in this BB.

Before you spend too much time researching this, however, recognize that this is a strategy for market makers and such because the profits that can be made from these pricing discrepencies are small and the commissions paid by us retail traders will easily bury these numbers.

Hello !
My question regards the strategy of the fund described below:

Fairfield Sentry is a fund that employs a sophisticated statistical index arbitrage strategy known as a 'zero-beta' or a non-market dependent strategy. Profits are earned on inefficiencies in the pricing of highly liquid index options, in this case, the S&P 100. The strategy has three distinct components. First, the manager buys a basket of 25-35 individual stocks, providing a close proxy to an index (again in this case, the S&P 100). Next, he then hedges out the downward risk of the stock holdings by simultaneously selling out of the money index call options and then buying out of the money (or at the money) index put options. The sale of options also increases the return through premiums earned. Generally, this strategy does not make use of leverage.

Please, can somebody explain in detail how this strategy works or post some useful links. I have done some research on the web, but didn’t find any useful resources. The strategy consists of a long + a synthetic short position, but what I don’t understand is how it generates its profits.

Many thanks in advance
Arnie