Reverse Conversion

DEFINITION of 'Reverse Conversion'

A finance and risk management technique based on a put-call parity strategy that consists of selling a put and buying call (a synthetic long position), while shorting the underlying stock. As long as the put and call have the same underlying, strike price and expiration date, a synthetic long position will have the same risk/return profile as ownership of an equivalent amount of the underlying stock.

BREAKING DOWN 'Reverse Conversion'

In a typical reverse-conversion transaction, a brokerage firm short sells stock and hedges this position by buying its call and selling its put. Whether the brokerage firm makes money depends on the borrowing cost of the shorted stock and the put and call premiums, all of which may render a return better than the money market with very low risk. In the context of futures markets, a trader would be synthetically long and short the underlying futures while looking for arbitrage opportunities.

RELATED TERMS
  1. Synthetic Put

    A trading strategy that combines the short sale of a security ...
  2. Synthetic Call

    An investment strategy that mimics the payoff of a call option. ...
  3. Synthetic Forward Contract

    A position in which the investor is long a call option and short ...
  4. Synthetic

    A financial instrument that is created artificially by simulating ...
  5. Synthetic Futures Contract

    A position created by combining call and put options for the ...
  6. Synthetic ETF

    An investment that mimics the behavior of an exchange-traded ...
Related Articles
  1. Trading

    Put-Call Parity And Arbitrage Opportunity

    Look at trades that are profitable when the value of corresponding puts and calls diverge.
  2. Trading

    Synthetic Options Provide Real Advantages

    Participate in options trading trading that is simpler, less expensive and easier to manage.
  3. Markets

    Get Into Low-Cost Futures Trading With Synthetics

    If you can't trade commodity futures outright, these vehicles provide a less expensive alternative.
  4. Markets

    What is Put-Call Parity?

    Put-call parity describes the relationship that must exist between European put and call options with the same expiration date and strike prices.
  5. Trading

    Trading Volatility? Don’t Trade Stocks, Trade Options

    During times of volatility, traders can benefit greatly from trading options rather than stocks. We explain why.
  6. Trading

    Prices Plunging? Buy A Put!

    You can make money on a falling stock. Find out how going long on a put can lead to profits.
  7. Markets

    Interest Rate Arbitrage Strategy: How It Works

    Changes in interest rates can give rise to arbitrage opportunities that, while short-lived, can be very lucrative for traders who capitalize on them.
  8. Trading

    Trade Smarter With Equivalent Positions

    Understanding the concept of equivalent positions will help you trade more efficiently and save money on trade fees.
  9. Trading

    Solving Mixed Options Problems On The Series 7

    Learn to ace the questions that involve both options contracts and stock positions.
  10. Trading

    How To Protect A Short Position With Options (FB, AAPL)

    Short selling can be a risky endeavor, but the inherent risk of a short position can be mitigated significantly through the use of options.
RELATED FAQS
  1. How is a short call used in a covered call option strategy?

    Learn how short calls are used in a covered call option strategy, what the risks and rewards of this strategy are, and how ... Read Answer >>
  2. How do traders combine a short put with other positions to hedge?

    Learn how sold puts can be utilized in different types of hedging strategies, and understand some of the more common option ... Read Answer >>
  3. What's the difference between a long and short position in the market?

    Understand long and short positions for stocks and option contracts; combine long and short positions for added leverage ... Read Answer >>
  4. How do I determine what the right situation is to make a covered call?

    Learn what a covered call is, how to use a covered call strategy, and what situations to sell a call option against a long ... Read Answer >>
  5. What techniques are most useful for hedging exposure to the telecommunications sector?

    Learn about option strategies used to hedge a long stock position in the telecommunications sector, including bear put spreads ... Read Answer >>
  6. How is a short call used in a collar option strategy?

    Learn how a short call is used in a collar option strategy, and see how this strategy has a limited risk and a limited return ... Read Answer >>
Hot Definitions
  1. AAA

    The highest possible rating assigned to the bonds of an issuer by credit rating agencies. An issuer that is rated AAA has ...
  2. GBP

    The abbreviation for the British pound sterling, the official currency of the United Kingdom, the British Overseas Territories ...
  3. Diversification

    A risk management technique that mixes a wide variety of investments within a portfolio. The rationale behind this technique ...
  4. European Union - EU

    A group of European countries that participates in the world economy as one economic unit and operates under one official ...
  5. Sell-Off

    The rapid selling of securities, such as stocks, bonds and commodities. The increase in supply leads to a decline in the ...
  6. Brazil, Russia, India And China - BRIC

    An acronym for the economies of Brazil, Russia, India and China combined. It has been speculated that by 2050 these four ...
Trading Center