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Hedging Jim Cramer's Friday Lightning Round Buys and Sells

|Includes:GE, GMCR, QRVO, S, SPY, T, Waste Management, Inc. (WM)

On his Mad Money show Friday, Jim Cramer was bullish on 4 of the 8 names callers asked about during the show's Lightning Round, according to Scott Rutt's write-up on Cramer was neutral on one of the names, Sand Ridge Energy Trust I (SDT), a royalty trust which has no options traded on it. The table below shows the costs, as of Friday's close, of hedging the other 7 stocks callers asked about during the Lightning Round, against greater-than-24% declines over the next several months, using optimal puts.

A Comparison

For comparison purposes, I've also added the costs of hedging the SPDR S&P 500 Trust ETF (NYSEARCA:SPY) against the same decline. I also added General Electric Company (GE), since one of the stocks Cramer was bullish on was its European rival Siemens AG (SI). First, a reminder about what optimal puts are, plus a note about why I've used 24% as a decline threshold; then, a screen capture showing the current optimal puts to hedge one of the stocks Cramer was bearish on, Sprint Nextel Corporation (S)

About Optimal Puts

Optimal puts are the ones that will give you the level of protection you want at the lowest possible cost. Portfolio Armor uses an algorithm developed by a finance Ph.D. to sort through and analyze all of the available puts for your position, scanning for the optimal ones.

Decline Thresholds

In this context, "threshold" is the maximum decline you are willing to risk. You can enter any percentage you like for a decline threshold when scanning for optimal puts (the higher the percentage though, the greater the chance you will find optimal puts for your position). Usually, I use a 20% decline threshold when hedging, but two of the stocks Cramer was bearish on, Green Mountain Coffee Roasters (GMCR) and Sprint Nextel Corporation (S), were too expensive to hedge using a 20% threshold (i.e., the cost of hedging it against a 20% decline was itself more than 20% of position value, so Portfolio Armor indicated there were no optimal contracts available for it). There were optimal contracts for all of these stocks against a 24% threshold, so that's the decline threshold I've used here.

The Optimal Puts For S

Below is a screen capture showing the optimal put option contract to buy to hedge 100 shares of S against a greater-than-24% drop between now and May 18, 2012. A note about these optimal put options and their cost: to be conservative, Portfolio Armor calculated the cost based on the ask price of the optimal puts. In practice an investor can often purchase puts for a lower price, i.e., some price between the bid and the ask.

Click to enlarge

Hedging Costs As Of Friday's Close

The hedging costs below are as of Friday's close and are presented as percentages of position values. Although it's not exactly an apples-to-apples comparison, because the optimal puts to hedge Siemens expire a month later (which, all things equal, would make them more expensive), I was struck by the difference in hedging cost between it and GE. Perhaps this is a reflection of risks associated with Europe's sovereign debt crisis.



Hedging Cost

  Cramer was bullish on:  
(WM) Waste Management Inc. 3.52%***
(CRM), Inc. 7.48%*
(SI) Siemens, AG 10.7%***
(T) AT&T, Inc. 2.21%***
  Cramer was bearish on:  
(RFMD) RF Micro Devices, Inc. 12.7%*
(S) Sprint Nextel Corporation 18.5%*
(GMCR) Green Mountain Coffee 21.2%**
(GE) General Electric Corporation 3.98%**
(SPY) SPDR S&P 500 Trust 2.47%**
Click to enlarge

*Based on optimal puts expiring in May, 2012.

**Based on optimal puts expiring in June, 2012.

***Based on optimal puts expiring in July, 2012.

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