HOT TRADING STRATEGIES FOR A COLD MARKET
Daily Stock Market Equity and Options Trading Commentary

To get a better understanding of the option ideas expressed in this blog, buy my ebook today!

Wednesday, July 8, 2009

Alternate Short Strategy: Purchasing Put Protection for Less

As recently posted on my blog I believe the market is due for a pull back, so it may be a good time to purchase protection on some of your long positions. I decided to write about the 50 largest stocks (by market cap) in the S&P 500 and give a put protection strategy for each of them. This is the first part of three which I'll be including 20 stocks in this analysis and 15 in each of the next two. The stocks will be listed in order from largest to smallest market cap.

The 20 stocks used in this article are the stocks with the current highest market cap in the S&P 500. To get a detailed spreadsheet of all 500 stocks, which will allow you to rank them based on their market cap minute by minute with the click of a mouse check out my blog post here.

If you're coming across this post you most likely hold or at least have interest in a stock I'll be talking about shortly. In this article I will lay out 20 option ideas, which will help hedge your portfolio against the downside. These ideas all require using the Bear Put Option Spread Strategy.

Therefore this post requires the knowledge of stock options, as I'll be talking about opening up a Bear Put Spread option position on each of the stocks listed. If you need help understanding options, or to learn more about opening up one of these positions (and options in general) click here.

The puts purchased/sold in this post are for the August option expiration. The put being purchased is the strike price lower and closest to the current share price, and the put being sold is the next highest put available (below the put being purchased).

All data as of market close Wednesday July 8, 2009.

Put Option Strategy #1: Buy the Exxon Mobil (XOM) August 65 put and sell the August 60 put. This strategy would cost $124 per contract to open, and gives you protection starting at 65 down to 60 over the next 44 days.

Put Option Strategy #2: Buy the Microsoft (MSFT) August 22 put and sell the August 21 put. This strategy would cost $36 per contract to open, and gives you protection starting at 22 down to 21 over the next 44 days.

Put Option Strategy #3: Buy the Wal-Mart (WMT) August 47.50 put and sell the August 45 put. This strategy would cost $76 per contract to open, and gives you protection starting at 47.50 down to 45 over the next 44 days.

Put Option Strategy #4: Buy the Johnson & Johnson (JNJ) August 55 put and sell the August 50 put. This strategy would cost $75 per contract to open, and gives you protection starting at 55 down to 50 over the next 44 days.

Put Option Strategy #5: Buy the Procter & Gamble (PG) August 52.50 put and sell the August 50 put. This strategy would cost $95 per contract to open, and gives you protection starting at 52.50 down to 50 over the next 44 days.

Put Option Strategy #6: Buy the AT&T (T) August 23 put and sell the August 22 put. This strategy would cost $31 per contract to open, and gives you protection starting at 23 down to 22 over the next 44 days.

Put Option Strategy #7: Buy the IBM (IBM) August 100 put and sell the August 95 put. This strategy would cost $151 per contract to open, and gives you protection starting at 100 down to 95 over the next 44 days.

Put Option Strategy #8: Buy the Google (GOOG) August 400 put and sell the August 390 put. This strategy would cost $430 per contract to open, and gives you protection starting at 400 down to 390 over the next 44 days. In terms of % protecting to the downside it is very low, therefore I would look at selling a spread as low as 370 for Google. A 400/370 put spread on Google would cost $1075.

Put Option Strategy #9: Buy the Chevron (CVX) August 60 put and sell the August 55 put. This strategy would cost $128 per contract to open, and gives you protection starting at 60 down to 55 over the next 44 days.

Put Option Strategy #10: Buy the JP Morgan (JPM) August 32 put and sell the August 31 put. This strategy would cost $41 per contract to open, and gives you protection starting at 32 down to 31 over the next 44 days. With 1 point strike increments on higher priced stocks, it may be worth to look into selling an even lower put. You'll have more at risk but you'll also have more protection.

Put Option Strategy #11: Buy the Apple (AAPL) August 135 put and sell the August 130 put. This strategy would cost $196 per contract to open, and gives you protection starting at 135 down to 130 over the next 44 days. Like the Google idea listed above, it may be worth it to check out the Apple 125 put instead.

Put Option Strategy #12: Buy the General Electric (GE) August 10 put and sell the August 9 put. This strategy would cost $22 per contract to open, and gives you protection starting at 10 down to 9 over the next 44 days.

Put Option Strategy #13: Buy the Coca Cola (KO) August 47.50 put and sell the August 45 put. This strategy would cost $70 per contract to open, and gives you protection starting at 47.50 down to 45 over the next 44 days.

Put Option Strategy #14: Buy the Cisco (CSCO) August 18 put and sell the August 17 put. This strategy would cost $37 per contract to open, and gives you protection starting at 18 down to 17 over the next 44 days.

Put Option Strategy #15: Buy the Oracle (ORCL) August 20 put and sell the August 19 put. This strategy would cost $33 per contract to open, and gives you protection starting at 20 down to 19 over the next 44 days.

Put Option Strategy #16: Buy the Pfizer (PFE) August 14 put and sell the August 13 put. This strategy would cost $28 per contract to open, and gives you protection starting at 14 down to 13 over the next 44 days.

Put Option Strategy #17: Buy the Wells Fargo (WFC) August 22 put and sell the August 21 put. This strategy would cost $42 per contract to open, and gives you protection starting at 22 down to 21 over the next 44 days.

Put Option Strategy #18: Buy the Intel (INTC) August 15 put and sell the August 14 put. This strategy would cost $26 per contract to open, and gives you protection starting at 15 down to 14 over the next 44 days.

Put Option Strategy #19: Buy the Hewlett-Packard (HPQ) August 36 put and sell the August 35 put. This strategy would cost $33 per contract to open, and gives you protection starting at 36 down to 35 over the next 44 days. Note that this is similar to the JP Morgan idea listed above and selling a lower strike than the indicated one should be considered for greater protection.

Put Option Strategy #20: Buy the Pepsi (PEP) August 55 put (currently in the money by 15 cents) and sell the August 52.50 put. This strategy would cost $95 per contract to open, and gives you protection starting at 55 down to 52.50 over the next 44 days.

A general rule I like to follow is to sell the put contract about 7%-15% lower than the strike price of the put contract I purchased. The reason I like selling the spread when hedging my portfolio is because it allows me to hedge cheaper, and although it limits my downside protection, I believe it should protect the majority of the move lower. In my humble opinion, I don't expect the stocks mentioned above to decline by more than 15% by the August expiration - however we all know they could.

These options expire on August 22, 2009, therefore the last trading day is Friday August 21, 2009. As you can see on average the greater the protection the more expensive the contract is to open.

If you're more bullish/bearish you’ll want to adjust the strike price accordingly. If you’re even more bearish, sell a put much lower than the one purchased, or don't sell a put at all. The cost will be more expensive to open the contract, however the downside protection will be greater.

This strategy is a great way to hedge your portfolio. The reason option volumes have exploded over the past 5 years is because they are a great way to hedge your portfolio (see chart here).

Bookmark and Share
Sphere: Related Content

1 comments:

Fred said...

Can you also include the expected max profit/loss for each transaction? I'm trying to learn option trading and this could give me a better insight.
Thanks in advance.

Hottest Blog Posts of All Time