Gold ETF Funds Options: I Plead the Fifth
By Charles Cottle www.RiskDoctor.com
I read CNBC.com’s “Man Vs. Machine” and it made me think about Gold ETF Funds.
CNBC.com | September 17, 2010
“Investors can be forgiven for feeling helpless in a world of high-frequency trading, Flash Crashes and big institutions, who now, more than ever, seem to be pulling all the levers on Wall Street.
But that doesn’t mean they actually are helpless.
As uphill of a climb as it may seem, the retail investor can still play this highly technical, electronically-controlled game where market action happens in fractions of fractions of a second…
A few ways individual investors can make that happen:
Buy the ETFs and Follow the Leaders…”
That article talks about Four Ways…”
You should consider a Fifth Way: Options. ETFs are great especially because of the ease of hedging with options. Consider what is going on with the Gold market;
By Glenn Hall The Street.com | By Glenn Hall | September 15, 2010
“Record gold prices may soon reverse and disappoint the bulls, said George Soros, the billionaire investor and legendary currency speculator…”Gold is the ultimate bubble,…”
What do you think about Gold? Would you get long the Gold ETF Fund: GLD, like Man Vs. Machine suggests? Would you listen to George’s point and get short?
While the Bulls and Bears duke it out, the dominant trend is still up but GLD is likely to witness some mean reverting zigging and zagging. Take a look at this GLD ETF Funds Chart using my proprietary Diamonetrics charting system. (Diamonetric Target for January 2011 Expiration: 122 to 130:
Courtesy of thinkorswim and Diamonetrics™ Java
If you own 1000 GLD ETF, you could consider a ButterflyHedge™ to reduce your risk from dollars to pennies. The Butterfly Hedge will temporarily remove 96% of the risk and have the opportunity to let the 4% ride and make up to 8 times that risk? That’s if everything goes perfectly to plan, landing at 126 at the January 2011 expiration. Bottom line and more realistically; most of your $12,600 of GLD value will be sidelined until January 21st and there is under $500 working to perhaps double, triple, quadruple or perhaps quintuple your money left on the table. This synthetic butterfly position will behave the same as a real, all call or all put 122/126/130 Butterfly currently going for under .50 ($50) each. My exclusive RiskIllustrator™ shows you how to dissect the position of the Options on Gold ETF Funds for all its potentially harvestable components:
Courtesy of RiskIllustrator™
Green Graph: Long 1000 GLD – Value at Risk: $12,600.
Red Graph: The Hedge – Cost: Generates Credit of $3909
Pink Graph: 10 JAN 122/126/130 Synthetic Butterflies – Value at Risk: $495
Some people, after employing this hedge (Long 10 JAN 22 Puts / Short 20 JAN 126 Calls / Long 10 JAN 130 Calls), protecting most of their $12,600 would be willing to pony up another $500 or $1000 or $1500 to buy out right another 10 or 20 or 30 Butterflies.
With each 10-Lot Butterfly Spread, whether real or synthetic, the holder will have opportunities to harvest some potential profits along the way. It may be hard to believe, but my students know that embedded in each 10 (4 points from wing to body) Butterflies are 160 Baby Butterflies:
Courtesy of RiskIllustrator™
For now, all you need to know is that there is a Fifth Way: Options with an unlimited amount of options on how to play with your ETFs.
Charles M Cottle, of RiskDoctor.com is an Ex-CBOE, CBOT and CME Market Maker, trained 1000s of Market Makers, is Author of books such as Options Trading: The Hidden Reality and has been Raising Options Consciousness since 1984. Take a FREE 5 Day Options Trading Education Course and download trial versions of Diamonetrics™ JAVA and RiskIllustrator™ to learn the Hidden Realities of Trading Options on ETF Funds.