BY: HANS ALBRECHT, CIM®, FCSI, VICE-PRESIDENT, PORTFOLIO MANAGER AND OPTIONS STRATEGIST, HORIZONS ETFS
April 10, 2017
Markets have soared since investors fell under the spell of “Trumpenomics” following the reality star’s ascension to the throne. Are valuations rich? By some measures, they are priced to perfection at the moment. But how should I proceed if I’m reluctant to buy-in here, and instead prefer to own the market lower? I could wait for a pullback – or alternatively, get paid to wait. Selling a cash covered put on SPY can potentially accomplish this.
For example, a put currently* expiring 2.8% out-of-the-money on May 5, 2017 at the $229.50 strike, can be filled at $1.05. This represents almost 49 basis points of premium that I can receive by selling a put that expires in about a month (approximately 5.5% annualized).
If the market stays above $229.50, I will collect that premium. If the market drops below $229.50 at expiry, I will have the SPY ‘put’ to me, meaning I will be obligated to buy SPY at $229.50 regardless of how low it is trading. However, I also collected $1.05, so my effective cost price would be $229.50 less $1.05, making it $228.45. I effectively get to own the market 3.3% lower than where it is currently* trading ($236.20).
No matter what happens, I get to collect $1.05. If the market comes down to $230, I still get to keep that premium and then can make a decision as to whether I want to by the market at $230 or not, having already put $1.05 in my pocket. What’s the downside? If the market takes off to $240, I’ve only collected $1.05 and I’ve missed out on another few dollars in gains. If the market trades down to $225, I now own the market a little higher. But with SPY put skew currently trading quite rich (puts are relatively expensive), I am being compensated nicely for selling that downside, so I have some volatility edge on my side.
Do you have to sit around if you only like this market at lower levels? No. Pick a strike and you can get paid while you wait to own it lower!
* As at April 1, 2017.
The views/opinions expressed herein may not necessarily be the views of AlphaPro Management Inc. All comments, opinions and views expressed are of a general nature and should not be considered as advice to purchase or to sell mentioned securities. Before making any investment decision, please consult your investment advisor or advisors.