21 August 2020 | Eugene Ng | Founder & CIO | Vision Capital
Introduction — Long Optionality / Gamma
Being long gamma is being long a call option (or put option), whose value increases (decreases) as its value of the underlying asset increases (decreases) as the underlying moves towards the outcome you want. Effectively when you are long an option, you are long gamma and vice versa if you are short options.
Why then for Investing?
Though we are not buying outright options, it is how we invest that is almost like buying an option. When we invest for the long term (which is the only term that counts) for any time frame of greater than ten years, the probability of losing money is almost 0%. Thus you only have unlimited upside and little to no downside, which is like owning an option and being long gamma.
Limited Downside and Unlimited Upside
The maximum a stock can go down is 100%. But it is unlimited as to how much a stock can go up. This is the most crucial part in understanding investing. Know that 20–30% of your multi-bagger winners whose gains will account for 70–80% of your returns and more than offset all your losses from your losers combined many folds over. Multi-baggers can go up to 10X, 20X, 50X and even 100X of their initial values, which is not really different from options when you do own one.
Thus the way I think about it, is that the original investment capital is almost like the option premium you paid. But initially it seems very expensive because your premium is the same as the underlying asset, but with time, that becomes very different. Take for example, when you invest $100 in a company whose share price is $10, when the company keeps growing and its share price becomes $1000 (100x), you would now have $10,000, which is a 100X return on your original capital (option premium).
Now when we put the right investing framework to identify companies that are more likely to yield multi-bagger returns over the long term, finding excellence, investing in excellence and holding excellence, your portfolio is much more likely to beat the market continuously over the long-run.
Source: Vision Capital
Short-Term Noise
In the short-term, market fluctuations (any stock price gains or declines) is just noise. The market is a voting machine in the short term and a weighing machine in the long term.
Source: Yardeni Research
Market Declines are Inevitable
In the very short-term, investing because of the volatility certainly does not look like buying of options, because your portfolio can swing +/- 30% in any given year on average. And it certainly does not feel like it. In fact, more than 93% of the time it will trade below the previous highs. You will come to feel like you are losing, when losing is actually part of winning.
Source: Vision Capital
Market Goes up over the Long Term
But understand that market declines are part and parcel of any rising market, even after numerous wars, virus outbreaks, recessions and depressions, the market always goes up over the long term (from the bottom left to the top right over the long term) which again is the only term that counts.
Source: Yardeni Research
Being Long Gamma
Long Term Investing and continuously investing is like continuously buying long-dated at-the-money call options throughout time and never hedging your delta or anything else.
Eventually you will end up with a strip of long-dated options of which:
- Multi-baggers: 20–30% of which will be super deep in-the-money
- So-so: 30–60% ranging from either slightly ITM to ATM or slightly OTM and
- Losers: remaining 10–20% would be very OTM and would likely be worthless.
Conclusion
To close, when you invest the way we do at Vision Capital and in Vision Investing, for the (1) long term and have the (2) right framework to invest in the right companies and have the (3) right investor’s mindset, Investing is actually inherently very long Gamma and very long-dated Gamma at that. Thus it is only a matter of perspective of one’s time horizon. And if you get your perspective right, this can be extremely rewarding for the very long run.
If you find this article interesting and would like to find out more about how we invest, click on the Amazon link below to read our book. Do leave a review or share with your friends if you find it very useful, it would help us greatly.
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