An Investor Who Sees The Future

“Alright, since you’ve understood it, I’ll explain. Both options and futures are derivative products. Do you know the difference between the two?”

“Somewhat.”

Sang-yeop, the senior, explained while drinking his cola.

“Futures involve an agreement to trade a specific product at a specific price at a specific point in the future.”

The reason for setting a price and date in the present to trade a product in the future is because product prices are not stable.

If the price drops in the future, the seller incurs a loss while the buyer gains. Conversely, if the price rises, the seller gains and the buyer incurs a loss.

Both the seller and buyer agree on specific prices and points in time in the present to avoid significant losses and gain a reasonable profit.

Therefore, futures trading is more active for products with volatile price changes, such as stocks or oil.

“Options work similarly in concept. While futures involve trading in the future from the present, options only sell the right to trade.”

Options have an expiration date.

Call options give the right to buy a product at a predetermined price on the expiration date, while put options give the right to sell it.

“Futures trading occurs regardless of future price changes, whereas options trading can depend on price changes at the expiration date.”

The decision to exercise the right is entirely up to the buyer. If it’s profitable at maturity, the buyer exercises the right; otherwise, they may not.

So, options with higher chances of realization have higher upfront costs, whereas those with lower chances have lower costs.

“When securities firms or fund companies issue options, financial experts calculate probabilities and returns using various formulas.

One interesting aspect of options is that the buyer’s profit potential is unlimited, but their loss is limited to the purchase price. On the other hand, the issuer’s profit is capped at the sale price, but their potential losses are unlimited.”

For example, let’s say there’s a put option that allows selling a stock at 1 million KRW when it’s priced at 2 million KRW. The likelihood of the stock dropping significantly or the put option being exercised is minimal, so the issuance price of the option is very low.

However, on the expiration date, the stock price reached 2.5 million won.

One can sell at 2.5 million won in the market, so there will hardly be anyone crazy enough to exercise the put option and sell at 1 million won.

Therefore, the option buyer gives up exercising their right. In this case, the buyer’s loss is limited to the option purchase price already paid, while the issuer gains the same amount.

Now let’s consider the opposite scenario.

If an unthinkable situation arises and the stock price drops to 100,000 won on the expiration date?

One can sell for 100,000 won per share in the market, but the option buyer can exercise the right to sell at 1 million won.

This would result in a profit of 900,000 won per share.

Naturally, the option buyer would exercise their right, and the issuer must honor that exercise.

One might think it’s just about paying the 900,000 won per share, but what if the issuance price of this option was 100 won?

From the issuer’s perspective, it means paying 9000 times the issued price of 100 won. If a buyer bought 100 million won worth of this option, the amount they would have to pay would be 900 billion won.

Of course, such events are rare.

But…

With a bitter smile, Senior Sangyeop said, “Good things don’t happen, but bad things always do. Such as the 9/11 attacks, or the bankruptcy of Lehman Brothers.”

Once such an event occurs, the put option prices skyrocket exponentially, and the option issuer must pay that amount.

During the financial crisis, global investment banks faced astronomical losses due to the derivatives they had issued, leading to bankruptcies or requests for government support.

“What happens if the issuer goes bankrupt?”

“We had insurance prepared for a landslide, but if a landslide happens, and the insurance company goes under first, then what’s next?”

If the payer goes bankrupt, there’s no way to collect.

Various regulations and margin systems exist to prevent such situations, but in the worst-case scenario, there’s no solution.

“However, such incidents might happen only once every few years, and most of the time, it ends with institutional investors and securities firms sweeping away the money that individual investors have put in.”

After a brief overview, the conversation continued with details that only those who have traded options would understand. I listened attentively, making mental notes of the important points.

Meeting someone in person to explain made me feel like things I only knew theoretically were now falling into place.

After finishing the conversation, Senior Sangyeop looked at me and asked, “I’d like to advise you not to dabble in options too much, but… what exactly are you planning to do?”

I hesitated to evade the question but decided to be honest. Being in a position of needing help, I didn’t feel right lying.

“It’s about Seosung Electronics.”

“Are you going for calls or puts?”

“Puts.”

Senior Sangyeop’s expression turned surprised.

“Why? It’s been performing well since the release of the L6.”

“That L6 model is going to be discontinued.”

“What?”

I explained about the exploding phone bought by Taek-gyu and the cases of explosions surfacing on the internet.

Seemingly incomprehensible, Sangyeop asked, “Is that the only reason? Do you have any other basis?”

Of course, I did. I just couldn’t explain it at that moment.

“Just because of those explosion incidents? Don’t you have any other solid information?”

There was, but I couldn’t elaborate right there.

“I just thought if more explosion incidents continue to happen, it might lead to discontinuation. It’s not precise information.”

Sangyeop advised me with a worried look, “Be careful. If you make a wrong move with options, you could end up like me, losing a lot in one go.”

“Alright.”

We left the restaurant after saying goodbye.

Senior Sangyeop left first, and then we got into the car.

I asked Taekgyu, “Did you hear? They say we can do it all at once. Do you still want to?”

Taekgyu nodded his head and looked at me.

“Of course. What about you?”

I chuckled.

“Let’s give it a try.”

***

Investment and speculation are fundamentally different.

If it carries a risk that one can bear, it’s considered an investment; if it carries a risk that one cannot bear, it’s considered speculation.

However, this distinction can be as thin as a single sheet of paper.

The same action can be considered an investment for someone and speculation for another.

Taking unbearable debt to buy a wasteland is speculation.

But what if you know the city’s development plan? What if you know a new city will be built in that wasteland?

We are in a similar situation.

No one knows if Seosung Electronics’ stock price will go up or down tomorrow. However, we know that the L6 model will be discontinued.

It’s not about luck; if you are certain, it’s investing, not speculating.

Taekgyu summarized it simply.

“If I do it, it’s investing; if others do it, it’s speculation, right?”

I nodded.

“That’s the right answer.”

While many oppose real estate speculation, they don’t consider buying a house for themselves as speculation but rather as an investment.

I pondered on investment strategies.

The easiest way is short-selling. The expected profit rate is around 20 percent. Even if things go wrong, losses should be limited to a few tens of percent. However, the profit is also capped at that level.

On the other hand, buying put options could result in profits ranging from several times to tens of times if the predictions are correct. However, in the worst case scenario, all investment capital could be wiped out.

“Low-risk, low-return or high-risk, high-return?”

The lower the risk, the lower the return, and the higher the risk, the higher the return.

After much thought, I came to a conclusion.

“Let’s buy around 70 percent of put options and the rest through short-selling.”

Even if the profit margin is slightly reduced, avoiding the worst-case scenario was crucial.

***

The stock price of Seosung Electronics, which was hovering around 1.4 million won, surged steeply to around 1.6 million won after the release of the L6.

The L6 received acclaim for surpassing Enphone in both design and performance, and recorded sales of over 40 percent compared to its predecessor in the global market.

It was predicted to achieve the best performance in the next quarter, leading securities firms to raise their target prices in a frenzy.

In reality, stock prices often move differently from expectations. This is because they reflect not the current value, but the future value.

In other words, the current stock price of Seosung Electronics was determined by factoring in the future profits from the L6.

But what if the L6 is discontinued?

Both current and future profits would vanish.

Considering that the stock price has risen by over 10 percent since the L6 release, it is likely to drop by at least this much. Thinking about the potential loss due to refunds, wouldn’t the current stock price fall by over 20 percent?

As Taekgyu browsed the internet, he said, “Looks like it’s crashing again.”

“Look.”

The latest explosion happened not in Korea, but in the United States. Moreover, the fact that it wasn’t during charging made the issue even more serious.

Seosung Electronics stated they would collect and investigate the matter. They insisted that all previous explosions were due to external impacts, and they believed this one was no different.

As explosions continued in Korea and abroad, foreign media started to pay attention.

Time was running out.

—

Just a few years ago, Korea was the world’s top player in derivative trading volume.

While that may not be the case now, it still dominated in terms of trading volume relative to market size.

The daily average trading volume for options alone was over 500 billion won, and futures trading volume surpassed 1 trillion won.

It was becoming hard to tell whether this was a stock market or a gambling den.

The battle in the futures and options market was fierce, with gamblers trying to turn their lives around in one go and issuers blindly scraping money off them.

I sat in front of the computer in place of Taek-gyu, logging into the home trading program.

There were various rights exercises for put options. The higher the exercise price, the higher the issue price, and the lower the exercise price, the lower the issue price.

Out of the 138 billion in the account, 8 billion was my own money.

Although Taek-gyu had said he would cover all the investment money himself, if we were going to invest together, I had to show the same commitment.

So, I decided to pour in my share of 8 billion.

Click!

I typed on the keyboard and bought Seosung Electronics put options.

No matter the exercise price, if the stock price didn’t drop as expected, these options would all turn into scraps.

I wasn’t sure if this was a wise move.

I pushed aside my doubts and continued typing on the keyboard. But as I placed the buy orders, an unexpected problem arose.

“This, there isn’t much quantity.”

Derivative products are usually issued based on indexes like KOSPI200 or HSCEI, and options issued based on individual stocks were limited.

Although there are various options issued based on companies like Seosung Electronics, there weren’t many options that suited our requirements.

I bit my tongue.

“I didn’t consider this aspect.”

It was something Senior Sang-yeop hadn’t mentioned.

Thinking about it now, it was obvious. Senior Sang-yeop probably thought our funds would range from a few million to about 100 million at most.

He couldn’t have imagined we’d have 13.8 billion.

Currently, Seosung Electronics holds a 19% share of the exchange. For a single company to account for nearly 20% of the exchange market cap is astonishing.

Even considering Korea’s growth centered around large corporations, a market cap exceeding 250 trillion is an alarming level.

Theoretically, if Seosung Electronics drops by 10%, the KOSPI would decline by 2%.

“If it drops by 20%, would it fall by 4%?”

Given its significance, the discontinuation of L6 would not only impact Seosung Electronics but also the entire market.

I also bought KOSPI200 put options. Luckily, options based on KOSPI200 were abundant in the market.

Ring ring!

With a notification sound, contracts continued to be executed. As the cash balance decreased, the option balance increased.

I poured 130 billion into put options and short selling out of the 138 billion. Only a mere 8 billion remained in the account.

“Why aren’t you buying more?”

“Use the remaining 8 billion for your living expenses.”

Even in the worst-case scenario, 8 billion should suffice for living expenses for a while.

It’s already too late to turn back now.

All that’s left is to wait for the results.