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Toppy Tuesday – Hedging Ahead of the Fed

What a market! 

I know it's hard to talk about hedging when the market is doing so well but that's the lesson of Joseph and the Pharoh from the Bible – you have to prepare for the bad times DURING the good times or you get screwed.  As a rule of thumb, we like to put 25-33% of our unrealized portfolio gains into our hedges in order to lock them in against a downturn.  If we do our jobs well, we get out of our longs ahead of a correction and ride the shorts down to even more profits – that's been working well for us for the past two years.  

At PSW, our two main portfolios are our Long-Term and Short-Term Portfolios (LTP and STP) and, very simply, the STP has our hedges as well as fun short-term plays while the LTP is generally full of bullish plays.  We started with $500,000 in the LTP and $100,000 in the STP back in October of 2019 – after cashing out our previous set with a $2M balance (up 233%) that September.  Now we're back over 2M again and it's very tempting to just cash out but the market has been so strong – and our long positions are so good – we don't have a good enough reason to sell yet.  So we hedge….

Our last STP Review was May 14th and our STP was up 40% at $281,128 (we had added $100,000 from the LTP when the STP was down to $50,000 after the big rally last year) and, as of yesterday's close, we're up 21% at $242,088, so we've lost $39,040 this month but the combined balance with the LTP is positive – and that's what we care about.  We're hedged pretty much to neutral – not really trusting what I believe is a toppy market.  

We made 4 changes to the STP last month and we felt adequately hedged and we also added a lot of LTP positions to shift a bit more bullish – but nothing too crazy.  

  • XRT – Our short play on retail did not work out – total loss.

  • SCO – They did a 1:4 reverse split and our prediction is that oil will be below $60 by the year's end.  So far – not working.

  • CMG – We rolled our short puts last time and bought back the short calls on the dip so now we're waiting for a move up to sell short calls again.  It's very tempting to take net $72,865 and run on this trade as we started at net $35,000 but we have 220 days left and we think CMG will be below $1,200 this year and we could sell 3 Sept $1,500 calls for $40 ($12,000) using just half our time so, when they get to $21,000 ($70), let's do that!  If they don't get to $21,000 – then our long puts will be on track, right?  

  • FXP – The short June $35 calls paid off and we can cash out with a nice profit or maintain a hedge on China.  Nothing has really changed there so let's roll our 40 Sept $30 calls at $1.95 ($7,800) to 40 Dec $30 calls at $3 ($12,000) and pay for that by selling 40 Dec $40 calls for $1.25 ($5,000).  That's net $800 back in our pocket and we've get 3 more months to make gains on our spread.

 

  • TQQQ – The Nasdaq just keeps going higher.  We're about even on the spread so, mechanically, let's roll the 20 Jan $120 puts at $24.80 to the $130 puts at $30.30 for net $5.50 and the June $100 puts will go worthless so now we can sell 10 July $110 puts for $5.50 ($5,500) to pay for the roll.   That's how we keep ourselves in position to win – letting the short-term short puts take the brunt of the losses.  

  • SQQQ #1 – As above – are we in a position to win?  Our Jan $5 calls are $5 in the money and they are covered by short $25s that will not likely be hit.  If the Nas falls 20% then SQQQ rises 60% (theoretically) to $16.  Even a 40% drop will only get SQQQ to $22 so are we better off with 100 $5s or 200 $10s?  Well 100 5s would be $11 at $16 for $110,000 and 200 $10s would be $6 for $120,000 so there's no benefit to having the $5s, is there?  The Jan $10s are $2.10 so let's roll up to 200 of those as it's much better protection on a more than 20% drop and it's a net credit on the roll so no reason at all not to do it.
  • SQQQ #2 – Already in the correct position but 2023 on these.  The short $30 calls are pointless but I wouldn't spend perfectly good money buying them back.  

  • TZA – 20% drop is 60% pop from $28.34 to $45.34 and that would make the $30 calls worth $150,000 and the curreent net on the spread is $13,250 so that is a LOT of bang for the buck on this one.  That's because we sold the 2023 short calls, not 2022 but I think we'll adjust just fine down the road.  Not going to sell more calls at the moment as we're pretty low.  

  • W – I don't know how they keep recovering.  We're not behind but I'm annoyed we aren't doing better.  The short $320 calls should go worthless and earnings are early Aug so I'd rather sell 3 Nov $340 calls at $35 ($10,500) to pay for rolling the 5 Jan $300 puts at $42 ($21,000) to 5 2023 $350 ($98.50)/$250 ($43.50) bear put spread at net $55 ($27,500).  So we have a net $4,000 credit and we've raised the spread $50 and widened it considerably.  Hopefully now it doesn't drop too fast as we still have those short Jan $260 puts but lots of time to roll.

So we've made some very aggressive adjustments but, not only have we spent no money – we've put money back in our pocket!  

How much protection do we have (post adjustment, rough numbers)?

  • SCO, CMG and W are more like bets – we don't count them as hedges. 
  • FXP – $40,000 spread at net $7,000 – $33,000 protection.
  • TQQQ – $60,000+ spread at net $45,000 – $15,000+ protection (half cover).
  • SQQQ – Now 400 $10 calls which hit $240,000 at $16 (20% drop), now net $44,000 – $200,000 protection
  • TZA – $85,000 spread at net $13,250 – $72,000 protection.

So that's about $320,000 of downside protection we expect to kick in against a 20% drop and that would pretty much double on a 40% drop so now all we have to do is make sure our primary positions won't lose more than that on a 20% drop and we're in good shape to weather a storm.  

 


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  1. Phil / EXPE / STP

    I noticed EXPE is not in the STP. Did you exit the position? On March 23rd, you had mentioned :

    Let's play EXPE short in our Short-Term Portfolio with the following:
     

    Buy 10 EXPE July $190 puts at $28.50 ($28,500)

    Sell 10 EXPE July $165 puts at $14.50 ($14,500) 

    Sell 5 EXPE July $190 calls for $10 ($5,000) 


  2. Good Morning.


  3. Phil / SQQQ #1

    Are you suggesting we roll the 100 Jan 2023 $5 calls to 200 Jan 2022 $10 call?


  4. Schwab is now accepting orders to liquidate CHL positions. They are quoting $29.15.


  5. I was  thinking about rolling my SQQQ 2023 long10s to 5s for $2ish and possiblyselling some of the 20s so no new money with 5$  more protection.  Thoughts?  


  6. W- on this adjustment you are leaving the 22-Jan putters open while establishing a "new" wider 2023 spread (350/250)? Thus having 10 putters- 5-Jan 260's and 5 – 22-Jan 250's?


  7. Good morning!  

    EXPE/Jij – Apparently we forgot all about it.  I guess that's because it was on the main page:

    In forecasts released last week, Fed policy makers projected that the economy will grow 6.5% in 2021. That would be the fastest pace since 1983 when measured fourth quarter over the same three months a year earlier and would follow a 2.4% contraction in 2020 as a result of the pandemic.  Inflation, as calculated by the personal consumption expenditures price index, is seen in the Fed’s median forecast as ending 2021 at 2.4%.

    That all sounds great but already we're seeing some recovery issues in Europe, where Germany is imposing a hard lockdown over the Easter Holiday in an attempt to reverse a new wave of infections.   Progress in fighting the crisis is showing signs of stalling. While fatalities in the U.S. and U.K. ease, places like India and eastern Europe are seeing a resurgence. Globally, we have only vaccinated 458M people – just 5% of the people.  You can't "win" in vaccines – the whole World needs to eradicate the disease or it can keep coming back in different variants. 

    That makes Booking Holdings (BKNG), the old "Priceline",  an interesting short as their recovery very much depends on global travel and global travel looks like it might end up being a bit of a disappointment this summer as nowhere near enough people are vaccinated to responsibly lift travel restrictions and countries that have been too lax are already being forced to lock back down.

    At $2,232, it's an expensive stock to short and we could just buy the Jan $1,000 puts at $15 – not because we think it will go down to $1,000 but because it's not likely BKNG goes over $2,400 and the Jan $800 puts are $7 so figure our loss shouldn't be more than 50% while a $200 drop should put us around where the Jan $1,200 puts are, which is $24 for +$9 and, of course, we can do a lot better.  

    Another way to play is to buy 2 Jan $2,200 calls for $300 ($60,000) and sell 3 July $2,200 calls for $200 ($60,000) and that's net $0 so if BKNG is below $2,200 in July, whatever value is left on the long calls is profit and over $2,200, we have 6 months to roll and adjust the position.  It's a bit too risky and too large for our portfolios – but a fun trade to watch and see how it goes.

    Expedia (EXPE) is also silly at $172, which is just under $25Bn for a company that makes $500M in a good year so 50 times earnings in the best case, which is unlikely.  Let's play EXPE short in our Short-Term Portfolio with the following:

    • Buy 10 EXPE July $190 puts at $28.50 ($28,500)
    • Sell 10 EXPE July $165 puts at $14.50 ($14,500) 
    • Sell 5 EXPE July $190 calls for $10 ($5,000) 

    That's net $9,000 on the $25,000 spread that's $20,000 in the money to start so we only lose money if EXPE can get back over $180 into the summer.  In a Portfolio Margin account (and you shouldn't be doing naked short calls in an ordinary account), it only requires $6,663.40, so it's actually an efficient way to make $16,000 – hopefully.  

    SQQQ/Jij – Yes because SQQQ is a hedge, not a trade.  We are protecting ourselves from a 20% drop in the market that would take SQQQ to $16 so our 100 $5s would be worth less to us than 200 $10s at $16 and from there forward the 200 is better AND we lose less on the way down as well.

    CHL/Randers – Seems a bit low though I guess they just paid dividends.  

    SQQQ/Nom – As above, it's a hedge, not an investment so it's more important you get the protection on the move up than be in the money.  Since 60% (20% drop) takes you to $16 and then $22 for the next it means you can buy the $10 ($3.75)/$20 ($2.45) bull call spreads for $1.30 and at $16 you have $4.70 worth of protection.  That should be the benchmark for your hedges, if you roll from $10 to $5 ($5.75) for $2 and sell the $20s for $2.45, it's a net credit (assuming you are currently uncovered) of 0.45 but at $16, the $5s are worth $11 so + $5.25 from where they are now.  So, you would do a little better for the "same" money but it's not really the same as you are now counting the original cost of the $5s,  Still, given where you are now – it's not a bad move either way but, if you are wrong and the market goes higher – the delta on the $5s is 0.84 vs 0.66 on the $10s so you'll lose about 30% more if the market keeps going higher.

    W/Pstas – Yes, leaving the short Jan puts as it's easy to adjust out of if we get a sudden dip.  Essentially, we now have the 2023 $350/$250 bear put spread covering short Jan $260 puts and 3 short Nov $340 calls – kind of like a butterfly play.  Anything in that range would be great for us but we'd obviously prefer the lower end.  Notice the strong rising channel at $285 – no particular reason to think they will shatter it so may as well make money while we wait.  


  8. SQQQ confusion: I think the confusion is not over rolling the $5 to the $10 calls. But, rolling from the Jan 2023 $5 to the Jan 2022 $10 calls. 



  9. SQQQ/Dave – That's my bad, I didn't realize they were 2023 and the 2022 $5s are silly while the 2023s are only a little more money and a much better thing to hold onto.  Still, I'd rather have 200 for the next few months and I don't want to spend money and we can always roll back to the 2023 $10s ($3.75) down the road – so I still want to do the roll and probably would have anyway, without the mix-up.

    That's a lot of money:

    • Commenting on a $5B credit line it secured with General Motors Financial to build its self-driving car, Cruise CEO Dan Ammann said Tuesday that the company now has a war chest of $10B.
    • Speaking to CNBC, Ammann also confirmed the company was eying a potential launch in early 2023, with "ambitious scaling plans" to expand from there.
    • The company noted that it will begin operations in San Francisco, where it has done most of its test driving. From there, it will roll out to other markets.
    • Cruise's Origin, an all-electric self-driving car developed as part of a partnership between GM (NYSE:GM) and Honda (NYSE:HMC), is designed for delivery and ridesharing. It began preproduction last year.

    • Leadership remains hard to come by in today's market, with cyclical and megacap sectors sliding.
    • The Nasdaq (COMP.IND) -0.6% is the worst performer among the major averages. The Dow (DJI) -0.5% is lower and the S&P (SP500) -0.3% is off, but faring the best.
    • The 10-year Treasury yield is flat at 1.5% following the higher-than-expected rise in wholesale inflation.
    • All the six megacap stocks are down with Tesla struggling the most.
    • Eight out of 11 S&P sectors are down, with Materials (NYSEARCA:XLB) the weakest.
    • Freeport-McMoRan is the biggest decliner in XLB and the S&P as copper futures fall 4% to a seven-week low.
    • Energy (NYSEARCA:XLE) is one of the three rising sectors as WTI futures move back above $71 per barrel.
    • That's helping Exxon Mobil top the S&P gainers list, along with BofA predicting the company is poised to raise its dividend.
    • Check out Wells Fargo's predictions for the next 18 months, including the S&P and inflation.


  10. We’re in serious trouble, says hospitality industry




  11. Oil up over $72.  Getting a little close to July 4th to DD, currently 2 short at $71 avg.

    Can you believe that, July 4th already?

    Gasoline still not feeling the love so the oil move is likely BS.


  12. THO   recently discussed 

    a trader sold 1500 July $105/$100 put spreads for $1.40 *

    note Phil doesnt like bull put spreads 


  13. FRO is perpetually between $5 and $10 and $8.65 is $1.75Bn in market cap and this should be a good year for them with shipping rates rising.  In a good year, they can make $200M+ but what I really like about them is great options to sell and an 0.50 (seemingly annual) dividend:  

    Year End 31st Dec 2015 2016 2017 2018 2019 2020 TTM 2021E 2022E CAGR / Avg
    Total Revenue
    $m

    459 754 646 742 957 1,221 1,003 502 748 21.6%
    Operating Profit
    $m

    277 170 -196 82.7 240 508 324     12.9%
    Net Profit
    $m

    155 117 -265 -8.88 140 413 276 82.9 293 21.7%
    EPS Reported
    $

    2.38 0.745 -1.56 -0.052 0.781 2.09 1.40     -2.58%
    EPS Normalised
    $

    1.56 1.20 -0.509 -0.091 0.762 1.99 1.33 0.216 1.44 4.99%
    EPS Growth
    %

    -76.3 -23.0       +161 +7.13 -89.1 +564  
    PE Ratio
    x

              4.39 6.54 40.4 6.08  
    PEG
     

                  0.072 0.160  
     

    In the Dividend Portfolio, let's:

    • Buy 2,000 shares of FRO for $8.65 ($17,300) 
    • Sell 20 FRO 2023 $10 calls for $1.50 ($3,000) 
    • Sell 20 FRO 2023 $7 puts for $1.40 ($2,800)

    That's net $11,500 or $5.75/share and, if assigned 2,000 more at $7, our average would be $6.375, which is where we wish we'd caught them.  So that's our worst case and best case is we get called away at $10 with $20,000 plus maybe $1 in dividends is $2,000 more for a net profit of $10,500 (91%) in 18 months.  Not bad for a conservative play!  


  14. Oil ended on a high note, we'll see how API and EIA come out.


  15. Randers/CHL – That price is about 10% less than what it is trading for on the HK exchange, but I guess that's the going premium for being liquid.


  16. Good morning everyone. Here is the link to today's webinar. 

    https://attendee.gotowebinar.com/register/7528632508505003276

    Also, for the rest of the week, if you refer a new Premium Annual Membership to PSW, we will refund your account $250

    After your referral has signed up and stayed active for 30 days, send me (Andy) an email with the new member's name and email and I will initiate the credit. You can invite them to today's webinar as an introduction. Share the love.