HiPOS Weekly Update: Turkey Edition

By Derek Moore

Friday of this week is expiration day, and it’s a shortened post-Thanksgiving trading session. Barring a dramatic downward turn in the market, you shouldn’t see much if any change in the remaining value of the spread positions prior to them being removed from the accounts after expiration.

So, with this trade ending the next question many will have is do we get a new trade on Monday? Given volatility’s current levels, the quick answer right now is simply “No.” Most likely there will be a little bit of a wait until a new trade qualifies for our strict entry rules. Below we can see the VIX Index chart and how we that market is pressing against the lows of the year.

Source: Yahoo Finance

When volatility gets to lower levels, we generally will need a short term down day in the stock markets so push volatility back up. Higher volatility is often needed for the requisite premium to be available at the right distance. Off course this is one of many qualifying factors, but an important one.

A few weeks ago, we floated the idea that there was some potential to add a short call spread to our existing short put spread to generate additional premium. That trade never materialized as call premiums out of the money did not provide an acceptable return for the given risk. You may have noticed that the market has been slowly marching higher over the past three weeks while volatility dropped.

This combination did not provide enough juice to be worth the squeeze via premium in the calls. As always, we continue to review not only the short put side, but also the short call trade above the market. Long time followers of HiPOS know that the call side is not typically available due to the premium skew inherent in out of the money put options versus out of the money call options.

For now, we’ll keep this pre-Thanksgiving edition short. Before I go, I had to pass along an options analogy I thought of today while waiting in a much longer line than I’m accustomed to at the local grocery store. Everyone, it seems, waits till the last second to do their holiday shopping. While this is focused on our short volatility strategy, the parallel really deals with our hedged equity strategy.

I was thinking I could have gone to the store early last week and no one would have been there. Today, volatility was high as demand for grocery goods was elevated right before the holiday. This is really like buying protection in the market. When volatility or demand is low, protection is at its cheapest. When the market is experiencing a selloff, it gets very expensive as everyone decides then to buy protection at the same time.

The point is don’t wait for the last minute to shop for your turkey. And don’t wait for a correction to consider hedging your portfolio.

Have a great holiday and we will be back next week with another edition.