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Options Action: The Long and Short of AIG

Thursday, 27 Aug 2009 | 3:40 PM ET

Thank God for AIG.

Not because they are a force of stability in the financial system (it's not), or because its compensation system is a paradigm of corporate responsibility (it isn't).

I am grateful to AIG because on an otherwise excruciatingly slow day, it is the subject of much speculation.

What's to make of today's 29% rally?

Could investors be betting the easing of private equity rules might lead to some sort of AIG buyout?

Maybe.

Could it be the rumored return of Hank Greenberg?

Doubt it. Mr. Greenberg himself called one of the CNBC producers to shoot that down.

The more likely scenario would be the massive short squeeze in the stock.

From calling around to various stock loan departments, shares of AIG are being lent out at a negative 30%, depending of course on how much love your prime broker's giving you. That means if you shorted 100 shares, it would cost you about $4 a day just to put on the position ($4800 times 30% (the short rate), divided by 360 (number of days per year)).

With less than 150 million AIG shares outstanding, it's likely to trade more than the float today.

It's no wonder people are scrambling to find shares, and that scarcity if driving huge volume in the options pits, as people look to use derivatives to make bearish bets, or at least try and game the short squeeze.

That might explain why puts and calls are on fire today. When you buy a put, or sell a call, at least you don't have to worry about having your borrow yanked from you, even if the price of the options reflects the financing costs involved.

"Whether you're bearish or playing the squeeze, this is a risky name," said Mike Khouw, director of equity derivatives trading at Cantor Fitzgerald. "So if you're gonna play, it makes sense to use options to mitigate the risks."

Questions, comments send them to us at: optionsaction@cnbc.com

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