The escalation in the European debt crisis is forcing investors to find safe places to park their cash. The Swiss franc and gold have been two of the more popular safe harbors, causing a huge run-up in their prices. Worried about the effects of a hyperinflated franc, Switzerland decided to start pegging its currency to the euro, which has caused its franc to tumble and the dollar to rise.
The greenback, as measured by its exchange traded note the UUP, has rapidly risen 4% off its $21 base. Today the UUP broke recent resistance at $21.75 and is poised to go higher. The stock doesn’t move in large increments, which means that you’ll get a lot more bang for your buck by using options. The great thing about the UUP is that its near-the-money options are heavily traded; there’s a lot of open interest.
Options players can take advantage of a bullish move in the dollar with an at-the-money call debit spread. The October 22/23 call spread has the following advantages:
- It’s low cost.
- You have nearly a month and a half for the trade to develop.
- The spread structure minimizes the effects of heightened volatility.
Here’s the set-up:
Buy the Oct 22 Call for $0.37 (OI = 23K)
Sell the Oct 23 Call for $0.12 (OI = 7K)
Net debit = $0.25
On the return side, you’re risking 25 cents to make up to 75 cents, which is a reward to risk ratio of 3:1; to get the comparable return with stock, the price would have to rise to $84. On the risk side, should the dollar take a dive, you can only lose the amount of your original investment, which is 25 cents ($25 per contract).
You won’t begin to make money until the stock rises above the breakeven point of $22.25 and your maximum return of $0.75 won’t be realized until the UUP rises up to or above $23 on or before expiration, which is October 21. The other thing to note is that the UUP is facing major support/resistance at $22. A more conservative player may want to wait until the stock breaks that level, but if you do, realize that the options pricing will be less attractive thus lowering your reward/risk ratio.
Outside of trading the currency futures directly, I can’t think of a better way to make a buck off the buck.