Venture Capital in the Options Market
A Simple (But Not Easy) Investment Algorithm
If you like this article, please do share it with a friend & click the ❤️ above. Thanks :)
If you’re new here, I share “buy-and-hold portfolios” that I believe can double in 3-5 years. You can see my Investment Scorecard here.
Results for our two current active portfolios:
China finally caught a bid… this helped both our portfolios.
Coffee Can 13: Up ~140% each, both Alibaba call options have doubled (in just 70 days)
Coffee Can 12: KWEB is up almost 50%. Last week KWEB traded over 300 million shares, the highest volume traded since Mar 2022! The bottom seems to be in.
I believe KWEB & BABA will be much higher a couple of years from now.
Three reasons why:
Multiples Still Low: The recent price surge has been due to multiple expansion. However, the multiples are still reasonable.
Stimulus Should Help Earnings Growth: As the stimulus starts to make its way into the economy, and as consumer confidence improves, I’d expect earnings growth to return and drive stock prices higher.
Investor Positioning in China Still Low: This has room to rise.
To receive Realtime Notifications of my buys/sells, join the waitlist here
Onto… Venture Capital in the Options Market
Investing in Mavericks is an investment strategy that brings the Venture Capital approach to the Stock Market. This approach is really about betting on businesses benefiting from “significant changes in the status quo”. Tesla is a perfect example. If we are right about some of these businesses, we can benefit immensely from Power Law dynamics and make wonderful returns. Such returns however, often take a long time to materialize.
What if we could compress these time frames?
This is where Options come in. Option price movements also seem to follow a power law distribution, but they do so in much more compressed timeframes. Options can expire in as little as just a few days to as long as only ~2 years. As a result, the feedback loop between making an investment and waiting for a result can be quite short.
Buying options is very similar to investing in a Disruptor. Both stand before a myriad of possible payoffs, some bad, some good, some amazing. Disruptors, like options, are also time-sensitive assets, especially earlier in their existence. If they are unable to demonstrate product-market fit, they will soon cease to exist.
If this is the case, we should be able to apply the Venture Capital mental model to the Options Markets as well.
How?
Well, one way is to build a portfolio using the following investment algorithm.
A Simple (But Definitely Not Easy) Investment Algorithm
Step 1: Identify catalysts that can create sharp price movements, like:
New Product Launches
Legal Settlements
Important Anticipated Company News
Price-Volume Supply/Demand Imbalances
Step 2: Use options to construct highly asymmetric bets
Some of my Favorite Examples
DISNEY/Disney+ Launch:
In 2019, when Disney launched Disney+, the market didn’t quite appreciate the magnitude of change this was for the company. Post announcement, when earnings came out, subscriber numbers surprised to the upside, and that resulted in the stock appreciating ~15% (if I recall correctly). But I distinctly remember that certain Disney options 7x’d in just 3 months!
TESLA/Elon Musk’s Compensation Package Vote:
In June 2024, Tesla shareholders voted on Elon’s pay package. After the vote, there was a slight pullback in price for a day or two, but then the stock price surged >40% over the next few weeks. Considering the magnitude of the move in such a short period of time, just imagine how much the options went up. I sold mine for a +2x in a couple of days, only to see that they were up another 10x just a few days later. Bummer.
ALIBABA/Chinese Stimulus:
As shown in Coffee Can 13, in July, I purchased Alibaba call options expiring in December 2026. The recent price surge in Chinese Internet equities has resulted in these options appreciating more than 100% in just over 2 months. Here we didn’t even need to predict the catalyst. Instead, we bought “2 years of time” for something good to happen.
The above outcomes clearly demonstrate power law return dynamics.
As you can see, this investment algorithm can be very powerful. One can generate exponential outcomes by betting on important catalysts.
However, this approach is certainly not easy to execute. Identifying catalysts can be challenging. Crafting the right bet can be complex. Volatility can be extreme. And letting your winning bets run, can be tricky.
Nonetheless, it’s an interesting and unique approach.
Question: How do you identify catalysts?
At the moment, the way I identify catalysts is quite adhoc. I’d love some suggestions on how to turn this into a more structured process. How do you identify catalysts? Please do share your thoughts.
If you liked this article, please do share it with a friend & click the ❤️. Thanks :)