Tuesday, August 25, 2009

Strangling Gold

So the strangles I mentioned in GLD yesterday .... let's take look starting with rationale underlying selling strangles. In searching for candidates I'm primarily looking for one of two things:

1. a stock that's relatively range bound.
2. a stock with potentially overpriced options.

Frequent visitors to the blog can probably deduce that I tend to put more emphasis on number two (I doubt I would sell strangles on a name with options appearing underpriced) but if both criteria are met it's obviously better.

So how does GLD stack up?

It certainly has been range bound between $98 and $86 in all of 2009, so that takes care of criteria number one. As to the overpricing, take a look at the volatility chart:

[Source: IVolatility]

Current 30 day HV resides at 14%, with IV sitting higher at 18%. So we've definitely got the premium of IV vs. HV. Furthermore, like the VIX, GLD options have overpriced realized volatility consistently through all of 2009. Now, I'll admit this certainly won't happen indefinitely, but I'd rather bet with the current status quo rather than against it.

Strangle
Sell Oct 103 call for $.90
Sell Oct 86 put for $.60
Net Credit = $1.50

[Source: EduTrader]

As GLD has treaded water since trade inception, the short strangle is currently profitable. The calls are up $.40, puts are up $.05. I'll buy them back ASAP at around $.20 or less apiece.

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