Stock Replacement Strategy

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DEFINITION of 'Stock Replacement Strategy'

An investment strategy that attempts to mimic the returns of a certain asset or group of assets by using a combination of different derivatives rather than buying the individual shares in the market. Traders will attempt to profit from the leverage found in options and futures because they can provide the same type of exposure to the underlying asset for a lower cost than if the trader were to buy the underlying assets outright.

BREAKING DOWN 'Stock Replacement Strategy'

An example of a stock replacement strategy would be to buy deep in-the-money options. The reason many traders use this strategy is because the delta of deep in-the-money options is close to 1, which means that the option will increase by $1 for every favorable $1 move in the underlying security. Buying in-the-money options allows a trader to have the same type of exposure to a stock for a lower cost than having to buy the shares. However, keep in mind that incorporating leverage creates a new set of risks, so it is a good idea to contact your financial advisor before incorporating a stock replacement strategy into your investment portfolio.

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RELATED FAQS
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  2. How does a forward contract differ from a call option?

    Forward contracts and call options are different financial instruments that allow two parties to purchase or sell assets ... Read Full Answer >>
  3. Why do companies enter into futures contracts?

    Different types of companies may enter into futures contracts for different purposes. The most common reason is to hedge ... Read Full Answer >>
  4. What does a futures contract cost?

    The value of a futures contract is derived from the cash value of the underlying asset. While a futures contract may have ... Read Full Answer >>
  5. What are the main risks associated with trading derivatives?

    The primary risks associated with trading derivatives are market, counterparty, liquidity and interconnection risks. Derivatives ... Read Full Answer >>
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