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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.


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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!
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