by Tom Doan
Occasionally in the Snider Investment Method, we will issue a position alert notifying our clients to Transmogrify a position into a new one. This is usually due to a change in the company structure like a buyout or merger or an event that impacts the stock or options, such as options no longer being offered for a position. Without going into too much detail of the Transmogrification process, Transmogrification essentially swaps an old position for a new position.
Clients will often ask about their winter positions and if they could also Transmogrify those and get new ones. Although on the surface this appears to be a good idea to swap a non-performing stock for a new one, let’s take a look at why it is not.
The goal of Transmogrification is to swap an old position that is no longer suitable for the Snider Method for a new position that is. The Transmogrification process is complete once you have unloaded all of your shares of the old position and purchased replacement shares of the new position. However, since we do not want to realize a loss, the unrealized loss from the old position is rolled into the new position. In other words, the new position will assume the cost basis of the old position.
Some minor adjustments are made in Transmogrification process, but for the most part the cost basis of the new position will be very close to the cost basis of the old one. Lattco will recommend a position that is close to the current price of the old position. As a result, a position with a cost basis of $30 trading at $3 may Transmogrify into a $4 position with a cost basis of $31. The additional dollar to the cost basis is an adjustment to accommodate the difference between the $3 and $4 stock prices.
Notice that the new position still has the cost basis that’s above the current price of the stock. Many clients ask if they can Transmogrify a winter position so they can get a new position that will generate income. However, since the new position inherits the cost basis of the old position, Transmogrifying a winter position will most likely replace the original with a new winter position. Nothing is accomplished except for incurring trading commissions and having to make adjustments to your paperwork.
Transmogrification is utilized when a change in the stock makes it no longer suitable for the Snider Method. So although it may initially sound appealing to swap your freezing winter position for a new one, you will not be better off in the end.