No. of Recommendations: 0
Everybody and his brother knows that options do not get the dividend. Since the entire market knows that, it is factored into the price.

Demonstrably provable.

SPY gets dividends.
The S&P 500 index does not get dividends.
SPX = S&P 500 Index Options
XSP = Mini-SPX Index Options (1/10'th of SPX)

Yet the prices of the identical call option contacts of XSP and SPY are the same.

What is wrong with that original statement ("missing out on the the 1.75% dividend") is the same mistake that the Dividend Growth investors make. That is, that dividends are an additional source of profit rather than simply one component of the total return.

Of course, I could be wrong.


The prices of the identical XSP and SPY call options are the same because both do NOT get the dividend.

The question was about the implied interest rate, which I took as a comparison between buying SPY outright and buying the ITM call.

Hypothetical example:

Port A:
Buy SPY at $200. During the next year it goes up and down, on ex-dividend date it drops by the dividend amount etc., but 12 months later it happens to end up at exactly $200 again. Result: $0 profit in the underlying, $3.50 dividends (1.75%, ignoring tax). Total return $3.50.

Port B:
Buy a SPY 100 strike call for $101. Ignoring dividends the implied interest rate for "borrowing" $99 is 1.01%.
Result after 1 year with SPY at $200: A loss of $1 in the option. No dividends.

For Port B to break even with Port A you need a 12 month return on the $99 that you have lying around for a year of $4.50 or roughly 4.55%. I would argue that this is the real implied interest rate.

My brain is too fried right now to make a similar argument for XSP - and if someone can shoot holes in the example above, please do so!
Print the post  


What was Your Dumbest Investment?
Share it with us -- and learn from others' stories of flubs.
When Life Gives You Lemons
We all have had hardships and made poor decisions. The important thing is how we respond and grow. Read the story of a Fool who started from nothing, and looks to gain everything.
Contact Us
Contact Customer Service and other Fool departments here.
Work for Fools?
Winner of the Washingtonian great places to work, and Glassdoor #1 Company to Work For 2015! Have access to all of TMF's online and email products for FREE, and be paid for your contributions to TMF! Click the link and start your Fool career.