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Its Grisha

Total Posts: 61
Joined: Nov 2019
Posted: 2020-04-29 17:17
Hi all, have an edge case I'm trying to wrap my head around here.

If I am long 15 shares of a stock and there is 4 for 1 reverse split, i now have 3.75 shares, .75 gets bought out and goes to cash, right?

What if I am short 15 shares and the same split happens? Do I need to pay out the cash value to buy back .75 shares? How is the price determined?

Minor detail I know, but I'm trying to do hyper-realistic backtesting at low asset levels to get a strategy seeded.


Total Posts: 449
Joined: Jan 2015
Posted: 2020-04-29 22:27
Oh man, you don't know the rabbit hole you're opening up here. Welcome to the world of odd-lot arbitrage. To paraphrase Kissinger, the fights are vicious because the stakes are so low.

The short answer is that the tender price is often pre-set well before the actual date it occurs. And even then the tender price does not often match the actual market price to any degree. (Especially when management is crooked.) This often creates situations where the tender price significantly differs from the real price price, giving rise to arbitrage opportunities.

Also it usually isn't just fractional shares, but anything less than 100-shares. At least in the US, where 100 is the odd-lot threshold. There's a number of reasons. Trading or holding an odd-lot often incurs high costs, so it helps avoid shareholder lawsuits. Also the point of a reverse split is usually to reduce the number of shareholders, so tendering out small-holders is often the point.

Unless extreme precision is really important, I'd just assume that anything less than 100 shares get tendered at last market close. But if hyper-realism is very important, than you'll need to read the actual legal body of every tender offer closely.

Good questions outrank easy answers. -Paul Samuelson

Its Grisha

Total Posts: 61
Joined: Nov 2019
Posted: 2020-04-29 23:18
Thank you for a great response! Fascinating stuff about the arb. Given the strat has nothing to do with splits, doing text processing on tender offers is probably beyond scope :)

Considering many lots will be odd, I'm thinking to just avoid positions in anything after a split announcement but before the effective date. Otherwise having pieces of the (small) book abruptly going to cash is going to mess with my exposures.
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