Having risen to over $1225, gold's recent $100 pullback has created an opportunity for savvy investors and traders to gain long positions on gold at a discount. We have covered a number of options strategies with respect to gold in our OPTIONTRADER service, but today we would like to take a look at a new tactic that will particularly suit larger investors and experienced traders.
We are very bullish on gold long term and intermediate term, even if the yellow metal is going through a natural correction and consolidation phase this week. When gold broke $1033 we saw this as a major breakout and we do not see gold going back to a three figure price, in other words: gold will not drop below $1000 any time soon.
Given that opinion, we think that any put contracts expiring in the next few months, with strike prices below $1000/ounce of gold (or equivalent for GLD) are worthless. Therefore we think their prices will soon fall to reflect this, and so we are of the opinion that selling these puts is a good trade, with the plan being to purchase them back for mere cents as they approach expiration.
With gold enjoying strong support at about $1020-$1033 and GLD getting a great deal of support at around $100, selling out of the money Jan-10/Feb-10/Mar-10 puts on GLD with strike prices of roughly $95 appears to be a good idea to us, we would view the sale of those contracts as “money in the bank”.
Of course one must understand that if these puts are sold short and gold does fall to a level where the puts are in the money, the investor will take a very large loss. As with all short selling, risk is potentially unlimited, so we would only suggest this for experienced options traders who keep a close watch on the markets and are prepared to use stop losses.
For the purpose of this article we will look at GLD since not all investors have access to gold bullion options, but most can gain access to GLD. Taking at look at the $95.00 GLD Puts series, we see that today the Jan-10 contracts last traded at $0.32, Feb-10 at $0.76 and March-10 at $1.26.
Our plan would be to sell all of these contracts short, whilst the correction on gold has increased the price of the puts, plus one is gaining a decent volatility premium on these options at the moment generated by the sharpness of gold's fall.
We would look to buy the puts back in around a month or so, where we think the March puts would have fallen at least 25%, the February roughly 50% and the January contracts should have decreased almost 75%, as it is in the near term contracts when time premium decay is the most rapid.
Is this strategy money in the bank? Whilst nothing is ever certain money in the bank, we think the probability of gold going below $1000 is very slim and so the chances of success in this trade appear high to us.
Disclosure: Author holds no position in GLD but is long on gold.