Conversion

A conversion uses the SAME strike for the put and call (arbitrage strategy), while a collar uses DIFFERENT strikes (typically OTM put and OTM call for hedging). A conversion has fixed value at expiration; a collar has a range of outcomes.

In a conversion, the short call combined with the long put creates a synthetic short stock that perfectly offsets your long stock. The result is a guaranteed exit at the strike price. You're not taking directional risk - you're locking in a known outcome.

No. Conversions require a short call, which needs margin. TFSAs don't allow margin trading. You need a margin account with Level 3-4 options approval for conversions.

Conversions exploit put-call parity violations, which are typically very small (cents per share) and quickly corrected by professional arbitrageurs. Large, obvious arbitrage opportunities don't last in efficient markets.

Nothing changes for your outcome. If the stock crashes below the strike, your put becomes valuable, offsetting the stock loss. You still exit at exactly the strike price at expiration. That's the beauty of a conversion - the outcome is fixed regardless of stock movement.

Profit = Strike - (Stock + Put - Call) - Carry Cost - Transaction Costs + Dividend (if any). If this is positive, there's an arbitrage opportunity. Carry cost = Stock × Rate × Time. Transaction costs include commissions and slippage on all three legs.

If assigned, you deliver your stock at the strike price. You still have your long put, which may have value if assigned before expiration. The key risk is if assigned before a dividend - you may miss the dividend or owe it. Your overall profit may differ from the expected arbitrage amount.

Consider closing if: (1) the stock is very close to the strike (pin risk), (2) you can capture most of the remaining value with less risk, (3) early assignment seems likely due to dividend or deep ITM call. Otherwise, holding to expiration realizes the full value.

A conversion combines long stock with a synthetic short (long put + short call). Since synthetic short = real short (economically), you have long stock + short stock = flat. The 'edge' comes from getting this flat position at a favorable price.

Institutions have: (1) lower transaction costs, (2) better execution and tighter spreads, (3) efficient handling of assignments, (4) portfolio margin for capital efficiency, (5) scale to make small edges worthwhile. Retail traders face higher friction that usually exceeds the small arbitrage edge.

A conversion is fundamentally an interest rate trade. You're lending money at the options-implied rate. If this rate exceeds risk-free rates, there's an arbitrage. The implied rate = ln(K/(S+P-C))/T. Institutions use conversions to lock in financing rates via the options market.

A box spread is essentially two conversions (or two reversals) at different strikes. Conversion at strike K1 + Reversal at strike K2 = Box spread. Both are interest rate arbitrage strategies. The box spread compounds the interest rate relationship across the strike range.

Before ex-date: Monitor ITM short call for early assignment (time value < dividend = assignment likely). If assigned: You deliver stock, don't receive dividend (or may owe it if after record). Best practice: Roll or close ITM short calls before ex-date, or factor dividend into your edge calculation.

Losses despite apparent edge occur when: (1) slippage exceeds calculated amount, (2) carry cost underestimated, (3) early assignment changes timing/dividend, (4) quotes were stale, (5) commissions underestimated. Always use conservative assumptions and require larger edge than theoretical minimum.

Conversions can potentially lock in economic gains without triggering a sale (for timing purposes). However, constructive sale rules may apply if the position too perfectly eliminates risk. Tax treatment is complex - consult a tax professional. In Canadian registered accounts (TFSA/RRSP), this is moot as the strategy isn't allowed.