Are mini-options a big deal?

The objective of mini-options is to open the door to options trading for investors with smaller accounts, allowing these investors to manage the risk of trading options on high-priced stocks.

A mini-option is 10% the size of a normal equities option contract. So, unlike a normal equities option contract that is exercisable into 100 shares of the underlying stock, a mini-option is exercisable into 10 shares of the underlying stock.

This is particularly helpful when dealing with higher-priced stocks. For example, Apple recently was trading at $525 a share. (All figures are in U.S. dollars, unless otherwise noted.) The Apple July 525 call was trading at $27.50 a share. A client who wants to buy these Apple calls would have to expend $2,750 per contract, which is simply the premium multiplied by 100.

Conversely, the Apple July 525 mini-calls cost only $27.85. Total outlay for your client is $278.50, which is the premium multiplied by 10. This is clearly more manageable than the costs associated with standard options contracts. Thus, by using mini-options contracts, traders can play long and short positions with much less risk.

Continuing with the Apple example, let’s consider the use of covered calls. Say your client owns 50 shares of Apple, which is not out of line for a smaller, diversified portfolio. With mini-options, you could write covered calls on part or all of the Apple position on behalf of your client; with a standard options contract, that strategy would not be possible.

Another strategy is to buy insurance on a client’s current stock positions. Clients holding less than 100 shares of Apple may want to hedge their risk as Apple gets closer to its next earnings release. (This would be for good reason, given the performance of Apple shares after the past couple of earnings releases.)

Using a standard equities option contract, one put option would hedge your client’s existing 50-share position by a factor of two, which makes it look more like a directional bet than a pure hedging strategy. With mini-options, your client can match the hedge to the number of shares, thus simplifying the process.

But what about the risks involved with mini-options? On the surface, the risks are the same as they are with a standard options contract. Maximum risk with a long call is the cost of the option; and the risk with the covered call is that you can lose your shares at the strike price of the call.

Although the general risk profiles are similar, there are slight disadvantages when it comes to pricing mini-options contracts. The bid/asked spread is typically wider than is the case with standard contracts, which means your clients will pay slightly more to buy mini-options and receive slightly less when selling. However, the ability for clients with smaller portfolios to engage in options strategies with higher-priced stocks outweighs the slight variation in cost.

Canada does not yet offer mini-options contracts, mainly because there are fewer high-priced stocks trading on the Canadian market. Canadian companies typically split their shares when the stock price eclipses C$100 a share, something we witnessed recently with the shares of Toronto-Dominion Bank and National Bank of Canada.

The idea of splitting shares in the U.S. has diminished in recent years, which explains the much larger database of stocks with a share price surpassing $100 and, in some cases, $1,000. As more U.S. companies reach these thresholds, it’s anticipated that more mini- options contracts will be listed.

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