Hedging An Appreciated Portfolio

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spindr0

OK, it's my turn to step up to the mike and face the ET audience. No tomatoes, eh?

I think that I have a fairly decent grasp of utilizing equity options on the retail level but I no experience whatsoever for hedging an appreciated equity portfolio with index options. So I'm looking for some suggestions - and nothing complicated and/or exotic like using the VIX. Maybe a little KISS for me???

My starting thought for consideration is using a 10% wide SPX collar (a short call 5% above and long put 5% below) for a modest debit. I'd determine my equity exposure and do the appropriate number of collars. If the collar got into trouble to the upside (the SPY was up 5.4% in the first quarter and 6.9% this quarter), I'd roll the entire collar up 5%, maintaining the same 5x5 pct on either side. Technically, I could sell a small portion of the portfolio to offset the upside collar loss for rolling but since I have the cash, not necessary unless the market melts up, which I doubt will happen without my having the time to adjust.

I got out of the way in 2000 and 2008 but I'd like something in place that avoids a day (or longer) like Black Monday in 1987 when I didn't know enough about getting out of the way (the 2 month 18% drop before the crash). What a nasty day! I want to stay in the game but I want to lock in years of gains. I don't have a problem with selling off a portion at an appreciated price if things get out of control but I really object to giving a large chunk back. Yep, a bit retentive here.

Any ideas how this approach (sort of a pseudo synthetic vertical) can be improved upon or perhaps some other ideas for some semblance of profit and protection? Or perhaps there was a previous convo about this on ET in the past (link?)? Constructive suggestions appreciated. TIA.
 
spindr0 said:
Any ideas how this approach (sort of a pseudo synthetic vertical) can be improved upon or perhaps some other ideas for some semblance of profit and protection? Or perhaps there was a previous convo about this on ET in the past (link?)? Constructive suggestions appreciated. TIA.
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I think at these levels of call vol, trading a collar is not the best idea. Maybe something ratio-like where you give up a bit on a small decline but get fully protected in a big selloff?
 
You can buy puts, or you can sell your stock and buy calls. Either way, your protection is temporary and must be renewed, and it's expensive, even in these times of low volatility. Instead, may I suggest using the hurricane warning system here: http://retirementoptimizer.com/

Try not to be attached to hanging onto your stocks. If the shit hits the fan and you have to get out, they will still be there when you're ready to rejoin the party.
 
Well (and for the benefit of others), if you're holding this position, you're probably stuck in it for the short term when liquidity evaporates when it hits the fan. Which means you need longer term options. Both points are very much in line with the intent to hedge a portfolio.

So, to state the obvious (as inferred from the title), hedges purchased today won't offer the same protection when you're 3 months and 5% above your hedge value. But shorter term doesn't cut it because crashes in the market usually happen in slow motion, and an expiry is going to force your hand before it's complete. You can mitigate this by buying a year's protecting in 90 day increments.

The VIX offers some good protection in a price agnostic sense. Ratio spreads are the answer here, but they're pricey if it settles above the low strike and below the top. But you can (for example) short the 8 and long the 9 while both are ITM and take a credit. And it's not a problem that it expires before the crash ends because the vix hits early.

...sorry, hit post by mistake...more too come.
 
You can play it with volatility too, using a low delta put that's going to respond to volatility similarly whether it's 20% or 25% OTM. As long as you can swing the capital to short the SPY when spreads spread, this gets you around the liquidity crisis.

And the final one will come as no surprise to you, what about selling calls on individual stocks to buy the SPY / SPX puts? Keep positions level in value in dollars (I.e. Sell the shares to pay for losses on the calls). Depending on your portfolio, you can probably pick up SPX puts for a year by giving up the gains on 30%-ish of your portfolio (more if you're loaded up worth dividend dinosaurs). You'll pick up the commission differences and then some on increased volatility in individual stocks. But I should note, this is unsuitable for someone early in their investment career because giving up the massive gains on one stock, you never regain on the hedge.
 
spindr0 said:
I think that I have a fairly decent grasp of utilizing equity options on the retail level but I no experience whatsoever for hedging an appreciated equity portfolio with index options. So I'm looking for some suggestions - and nothing complicated and/or exotic like using the VIX. Maybe a little KISS for me???
More...
You said KISS, if so why not do a no cost collar on the equity itself and why hedge with indices? Or you could sell the equity and buy an equal number of OTM calls?
 
ironchef said:
You said KISS, if so why not do a no cost collar on the equity itself and why hedge with indices? Or you could sell the equity and buy an equal number of OTM calls?
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Implicit in the title is more affordable coverage against appreciating assets (i.e puts that don't lose sensitivity to price changes). Collars are obvious, but you pay over time to hold these...either in lost gains or multiple premiums.
 
Is the account taxable or qualified?

Taxable - I would pair of some losses with gains.

Hedging ? Lot's of choices with options, but what is the nature of the portfolio?

If it correlates well to an index consider - as others have mentioned - collars or ratio spreads in cash-settled options so the balance of the portfolio remains intact. One concern will me margining the "technically" naked calls and does the account allow naked index options.

Play the erosion curve if you are going to sell some calls. Sell shorter dated against the longer dated puts.

No one hedge idea will be ideal. Consider doing tax matched selling to harvest the loses. That will define the $$ of any offsetting sales.

Collar some, but recognize no investor really wants to sell those calls - they just want to finance the puts so get creative. Sit down and do a forecast for the market overall and your individual names. Why do this - it's good discipline. For example, if your forecast for your portfolio is up/down 10% in the next year some would say that is an expected zero return and my hedging would be very aggressive. Let's say it's up 20% versus an expected risk of 10% - well I know have a sense of what strike price to trade.

Use equity calls versus index puts - the portfolio would then adjust if the calls were exercised and equity calls would generate larger premium the comparable index options. Again this blows the cash settled issue. Get creative.

Watch out for mark to market issues if you do cash-settled index options now and carry through to 2018.
 
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