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Entry from August 27, 2016
Greenspan Put (Fed Put)

The “Greenspan put” (also called the “Fed put") is a put option named after Alan Greenspan, chairman of the Federal Reserve from 1987 to 2006. The Long-Term Capital Management hedge fund collapsed, and its investors were bailed out in September 1998 under supervision of the Federal Reserve. Investors believed that the Federal Reserve would protect their investments, as if investors had a put option. Erin Arvedlund of TheStreet wrote on February 25, 2000:

“At least one Wall Street brokerage house has a theory about why puts are on the outs with investors: because the Federal Reserve has sold them a free safety net, the only ‘put’ on the stock market they need, a position being dubbed the ‘Greenspan put.’”

“Bernanke put” (after Federal Reserve Chairman Ben Bernanke, from 2003), “Yellen call” (after Federal Reserve Chairwomen Janet Yellen, from 2014) and “Keynesian put” (after Keynesian economics, from 2016) are similar terms.

DEFINITION of ‘Greenspan Put’
A description of the perceived attempt of then-chairman of the Federal Reserve Board, Alan Greenspan, of propping up the securities markets by lowering interest rates and thereby helping money flow into the markets.

Investors assumed that they would be able to liquidate their stocks at a set price at or before a future date as if there was a built-in put option. They believed that Greenspan would manipulate monetary policy and continue to maintain market stability. While the former Fed chair’s actions did have an effect on the markets, it was not necessarily his objective.

Wikipedia: Greenspan put
The “Greenspan put” refers to the monetary policy approach that Alan Greenspan, the former Chairman of the United States Federal Reserve Board, and other Fed members exercised from late 1987 to 2000.

The term “put” refers to a put option, a contractual obligation giving its holder the right to sell an asset at a particular price to a counterparty. The put option can be exercised if asset prices decline below that put price, protecting the holder from further losses. During Greenspan’s chairmanship, when a crisis arose and the stock market fell more than about 20%, the Fed would lower the Fed Funds rate, often resulting in a negative real yield. In essence, the Fed added monetary liquidity and encouraged risk-taking in the financial markets to avert further deterioration.

Options Traders Kick Back, Enjoying the ‘Greenspan Put’
Index put-buying falls out of favor as pros feel cushioned by the Fed.

Erin Arvedlund Feb 25, 2000 1:40 PM EST
“No one buys puts anymore,” remarked the head of one options desk with a large Wall Street brokerage firm Friday. “Why would you do that when they go out worthless every time?”

At least one Wall Street brokerage house has a theory about why puts are on the outs with investors: because the Federal Reserve has sold them a free safety net, the only “put” on the stock market they need, a position being dubbed the “Greenspan put.” It is becoming a more widely held belief these days.
Investors have snubbed buying such bets as they become more accustomed to the idea that Alan & Co. will step in and “save” the market with liquidity infusions, as the Fed did in cobbling together financial giants to rescue Long Term Capital Management during its 1998 collapse.

This theory has been floating around for a while, and it is difficult to price in the value of such an implicit, essentially free “Greenspan put” into the options market, said Steve Kim, derivatives strategist who helped author the Merrill Lynch report.

Google Groups: alt.pro-wrestling.wwf
‘Greenspan put’ could be encouraging complacency…
Some stock traders now call it “the Greenspan put”. It is a label borrowed from the world of options trading for a widely held view: when financial markets unravel, count on the Federal Reserve and its chairman Alan
Greenspan (eventually) to come to the rescue.

“Investors are worried about a hard landing. I am less concerned because I believe that the Fed is our friend,” said Ed Yardeni, chief investment officer of Deutsche Bank Securities, in a recent report.

16 December 2000, The Economist, “Finance and economics: First the put; then the cut?.” pg. 81:
Cometh the hour, cometh the man-or so investors hope. The “Greenspan put” is once again the talk of Wall Street. This mythical financial security first entered the investment lexicon after the crisis in 1998 over the collapse of Long-Term Capital Management, a hedge fund. The idea is that the Federal Reserve can be relied upon in times of crisis to come to the rescue, cutting interest rates and pumping in liquidity, thus providing a floor for equity prices. This is similar to a put option that guarantees investors a minimum price at which they can sell their shares.

18 December 2000, Barron’s, “The trader: Earnings warnings whack the market again” by Andrew Bary, pg. MW3, col. 3:
Richard Bernstein, chief quantitative strategist at Merrill Lynch, says stocks are being supported by a “Greenspan put.” This is the perception that the Fed will protect investors from serious losses in stocks by cutting rates. That belief was buttressed by the Fed chairman’s recent comments about the depressing economic effect of reduced equity financing and troubles in the junk-bond market.

8 January 2001, Barron’s, “The striking price: Greenspan puts” by Erin E. Arvedlund, pg. MW9, col. 1:
If you haven’t heard of this mythical financial security, the Greenspan Put first entered Wall Street lexicon after the 1998 collapse of Long-Term Capital Management.

The idea is that the Federal Reserve created a floor for equity prices. Investors were conditioned to expect that Fed Chairman Alan Greenspan would save the market with liquidity infusions, as he did ahead of UK, as well as during the LTCM bailout and the Mexican peso crisis. This perceived option on the market convinced investors that they’ll always be able to sell at a guaranteed price in the future. That’s the definition of a put, right?

2 July 2007, , “Another Greenspan Legacy” by Gene Epstein, pg. 24. col. 3:
A put option protects the holder against the decline in value of an underlying asset. The Fed put is therefore based on its degree of willingness to cut the fed funds rate-thus cheapening the cost of short-term credit-if asset prices are falling. Now, in an actual market, put writers (a/k/a sellers) demand that buyers pay them a premium commensurate with perceived risks. But in the ersatz market of the Federal Reserve, puts carry risks of their own.

For one thing, by giving speculators the impression that asset prices have an implied floor, Fed puts can encourage irrational exuberance. In fairness to Greenspan, and contrary to what some of his critics have charged, he never told speculators in dot-corns that he could prevent bear markets. But his willingness to cut the fed funds rate to 1% (it’s now at 5.25%), when the bear did strike certainly showed an eagerness to place a price floor under the worst consequences of that exuberance.

Fear Triggers Buying of VIX Calls
Events in Ukraine and Gaza show that volatility can increase on bad news much faster than it can decline on good developments.

July 19, 2014 4:08 a.m. ET
The “Fed Put” may be destined to become the “Yellen call.”

Unfortunately for investors, the call is on the CBOE Volatility Index (VIX), not the stock market. And VIX calls increase in value when the stock market declines.

The potential recasting of the famous Fed Put—named in years past for former Federal Reserve chiefs Alan Greenspan and Ben Bernanke, whose policies seemed designed to support the stock market—follows recent statements from Janet Yellen, the central bank’s current chair, that investors are too complacent about risk. This suggests that the days of historically low options volatility, a byproduct of a market grinding higher, are poised to end as the Fed prepares to wrap up its bond-buying program.

Posted by Barry Popik
New York CityBanking/Finance/Insurance • Saturday, August 27, 2016 • Permalink