"Over the next few months we expect markets to remain bumpy as investors digest ongoing news of slowing economic growth and weakening corporate profits growth," Bob Doll, global chief investment officer at BlackRock, wrote in his market comment this week.
Doll isn't so worried that he thinks the bull market is over, and investors who want to continue holding onto stocks but wouldn't mind carrying some insurance as well can turn to put options on the Standard & Poor's in case stocks stage a repeat of February's steep drop.
But rather than buying puts outright, Bud Haslett, director of option analytics at Miller Tabak suggests that investors consider a more complicated but lower-cost way of protecting the portfolio called a "combination bear spread."
Warning: The position will lose money if stocks rise much, so it isn't for someone feeling very bullish, and also "not for speculators," Mr. Haslett advised. Rather, "this is for someone who is getting a little bit nervous and doesn't want to just go out and buy puts."
Here's how it works:
- With the S&P 500 near 1453, buy one June 1405 put option and sell one June 1375 put option. That combination costs about $5.
- To offset this cost, sell one June 1460 call and buy one June 1470 call, a move that nets a credit of about $4.
- Once combined the two positions will cost about $1
- It starts to profit once the S&P 500 falls about 3% to 1404 and continues to do so as it drops all the way to 1376. Buying the June 1405 puts outright, by comparison costs closer to $13.
Remember: the tradeoff is that the position will also eat into gains in your stock portfolio if the S&P 500 rises. It is also possible that, given that the trade has four pieces to it, commissions and margin requirement might not make it feasible for some traders.
"Put-Options Strategy May Be SalveFor Investors Nervous About Bears"
By MOHAMMED HADI April 14, 2007; Page B5
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