Hedging the Most Widely-Traded Nasdaq Names

by: David Pinsen

The table below shows the costs as of Wednesday's close of hedging the most actively-traded Nasdaq stocks against greater-than-20% declines over the next several months, using the optimal puts for that.


For comparison purposes, I've also added the costs of hedging the SPDR S&P 500 Trust ETF (NYSEARCA:SPY) and the SPDR Dow Jones Industrial Average ETF (NYSEARCA:DIA) against the similar declines. The Nasdaq 100-tracking ETF PowerShares QQQ Trust ETF (QQQ) is also included, as it was on Nasdaq's most active list as of Wednesday. First, a reminder about what optimal puts mean in this context, and why I've used 20% as a decline threshold, plus a quick note about the Nasdaq most actives list.

Optimal Puts

Optimal puts are the ones that will give you the level of protection you want at the lowest possible cost. With Portfolio Armor (available in Seeking Alpha's Investing Tools Store, and as an Apple iOS app), you just enter the symbol of the stock or ETF you're looking to hedge, the number of shares you own, and the maximum decline you're willing to risk (your threshold). Then the app uses an algorithm developed by a finance academic to sort through and analyze all of the available puts for your position, scanning for the optimal ones.

Decline Thresholds

You can enter any percentage you like for a threshold when using Portfolio Armor (the higher the percentage though, the greater the chance you will find optimal puts for your position). The idea for a 20% threshold comes, as I've mentioned before, from a comment fund manager John Hussman made in a market commentary in October 2008:

An intolerable loss, in my view, is one that requires a heroic recovery simply to break even … a short-term loss of 20%, particularly after the market has become severely depressed, should not be at all intolerable to long-term investors because such losses are generally reversed in the first few months of an advance (or even a powerful bear market rally).

Essentially, 20% is a large enough threshold that it reduces the cost of hedging but not so large that it precludes a recovery. When hedging, cost is always a concern, which is where optimal puts come in.

A Note about the Nasdaq Most Actives

The Nasdaq Most Active Stocks list consists of the 20 names with the highest share volumes on the Nasdaq. Below are the first 10 names on the list as of Wednesday's close. As I mentioned above, one of these securities isn't a stock -- it's the ETF that tracks the Nasdaq 100. Also note that not all of the most active stocks on this list are components of the Nasdaq 100.



Cost of Protection (as % of position value)


Sirius XM Radio Inc.


(LVLT) Level 3 Communications, Inc. 13.6%***


Cisco Systems


(INTC) Intel Corporation 1.85%*
(MU) Micron Technologies, Inc. 4.99%*




(QQQ) PowerShares QQQ Trust ETF 1.64%***
(YHOO) Yahoo! Inc. 2.66*





Applied Materials



SPDR S&P 500


(DIA) SPDR Dow Jones Industrial Avg. 1.24%***

*Based on optimal puts expiring in October, 2011.

**Based on optimal puts expiring in November, 2011.

***Based on optimal puts expiring in December, 2011.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Additional disclosure: I am long some puts on DIA.