A Simple Option Strategy To Hold Onto Stock Gains!
The S&P is now sitting at its highest level since May of 2008, with another 1.4% gain yesterday.
It’s days like this that make you wonder why you’d ever bother selling anything.
I mean, this is unbelievable! Even amidst poor housing data which indicated contracts for existing homes fell more than expected, the S&P still gapped up.
Then it flatlined for a few hours before pushing up again, closing at a multi-year high of 1,416.
These are the perfect ingredients for the ‘no worry syndrome’.
The only question now is… where in the world are the sellers?
That’s simple… there are none!
Let me tell you some reasons why…
You see, some people say volume lately has been anemic. And conventional wisdom states markets that move up like this on declining volume shouldn’t be trusted.
However, conventional wisdom has been just plain wrong. Obviously, the importance of volume has been very misleading if you’ve focused on it to any degree.
Next, some believe that this market might be a little overbought. But again, just like the conventional wisdom about volume, conventional wisdom about sentiment isn’t working very well either.
The point is, trying to guess when this market might become so extended that all the buyers dry up has been an impossible task.
You see, when trading is lopsided for this long, buyers have to become sellers at some point. However, this little bit of logic continues to confound the skeptics right now.
But, at the same time, how can any reasonable person not expect some profit taking to occur soon?
In my mind, common sense demands that you lock in profits…
Now don’t forget, I’m an option strategist, so you know I’m not a big fan of “buy-and-hold”.
One way I like to lock in profits on stocks I own is with an options strategy called a collar.
This ingenious option strategy will allow you to protect any amount of stock gains you may have when the inevitable market correction comes.
Allow me to explain…
Say you were lucky enough to buy mega cap Intel (INTC) back in December at $23 a share. Today you’d be sitting on a nice 23% gain of $5.20 a share.
Do you want to give that back if the market drops?
Of course not.
So, let’s do this. With INTC trading today at $28.20 a share, we’re going to buy an INTC January 2013 $25 strike put option for $1.40 a share for every 100 shares of stock we own. This becomes your “cost of protection”.
Then we’re going to sell an INTC January 2013 $35 strike call option for $0.40 for every 100 shares we own at the same time.
Byputting on this collar, we reduce our “cost of protection” from $1.40 per share to $1.00 per share.
Even better, we’ll be able to sleep each night for the next 10 months knowing we’ve locked in a guaranteed profit.
Because by buying the INTC $25 strike put, we bought the right to sell INTC shares at $25.
And even though we paid $1.00 per share for this, the result is a guaranteed gain locked in at 4.3% ($23 purchase price and the right to sell our Intel stock at $25 minus $1).
Now remember, byselling the January 2013 $35 strike call, not only did we lower the cost of our downside protection, we also gave ourselves another 21% room for upside gain.
Bottom line…
In today’s market, it’s tough to call a top, just as it’s tough to call a bottom.
So don’t rely on “buy and hold”.
Be more proactive and lock in your gains with a collar. If and when this market corrects, trust me, you’ll be extremely happy!
Safe trading,
Marcus Haber
Category: Options Trading, Options Trading Strategy
