Hedging

[rjstc]

Curious with the run up in the markets. What are some ideas individuals are doing to hedge against a large market correction. I imagine there are some large profits in some stocks that people would rather keep for the long term rather than create a tax event but would like to protect some of their current gains. I kind of understand what someone like Ericopoly is doing but that is out of my league. Yet I would have the same potential tax problem here in Calif as he would. 

[vinod1]

I have recently increased cash levels to the highest level ever in my portfolio. In addition, just bought S&P 500 2014 $140 puts that cover about 25% of my stock exposure.

 

Vinod

[ASTA]

Is anyone else seriously thinking about buying for-example some  Expiration: Mar 21, 2014 (231 days) puts.  The 139 strike which is 20% below today spy price. the cost is only .89%.

I am up lets say 23% this year but feel great about my stocks which compromises 90% of my portfolio so maybe protect 50% of the portfolio until next year and sleep better?

Any one else felling the same way?

My latest thinking is when insurance is cheap VIX 11.98 way not think of hedging as one buys cheap stocks? and the cost is .445%(50% of the portfolio hedged)  easily noise in 1 day movements in stocks.

Did one last year but expired worthless but that's maybe the cost of sleeping a bit better at night.     

[thepupil]

I have been actively experimenting with what I would call "risk swaps" where I sell protective puts on stocks I like that have high relative options premiums due to the stocks' volatility and buy put spreads on the index.

 

An example is LUK. Its volatlity spikes up in broader market selloffs despite having a very liquid balance sheet and substantial tax assets that are very likely to be converted into cash at a rapid rate with the JEF acquisition (They also have some very high cost debt due in 8/2013 which should be redeemed or refi'd soon which will further shore up their balance sheet).  I like to sell LUK ATM puts and buy SPY put spreads. 

 

I did this in late June and have since covered the LUK puts and the way OTM SPY puts and am left with SPY 150 puts for very little costs.

 

With vol as cheap as it is, the first leg (selling LUK or "insert name here") may be unnecessary, and the better course, may be, as you suggests, buying puts outright.

[thepupil]

Just using LUK and January 2014 as an example, one can sell 1 LUK 25.00 puts for 0.95 (3.8% of full notional) and use the proceeds to buy 2 SPY 160/120 put spreads  (1.9% of notional).

 

So you bear all LUK downside after an 8% move in the stock in exchange for getting to participate in 2 X the markets downside from 7% to 20%

 

You obviously lose if LUK has some sort of disaster and this should be sized appropriately. When I put on the trade I was able to buy nearly 3X the amount of put spreads because LUK's vol increased a lot when it went from the low 30's to ~25, although as value investors we know its risk actually decreased since its liquid portfolio became a greater % of its MCap and its valuation decreased substantially.

 

I am actively looking for similar opportunities.

[ASTA]

thepupil

I think that the strategy is not to bad that you outlined. I own some LUK in one account and think the example you give is quite cool.

The idea seams to work best if there is an event before one proceeds with this thou. I think that WTW might look like and interesting idea with this approach.

However, as I am a junior pupil and because of accounting issues regarding my account I can not at the moment have to many exotic investments (option's) as my accountant is not so familiar with them. So might go the easier way of buying puts ;D 

Thanks for the example

Cheers     

[SharperDingaan]

We hedge by selling 1/2 our position, repaying margin, & repurchasing later. We hedge seasonally, & do so to reduce specific XYZ exposure as well as eliminate any leverage we have - ahead of what we expect to be a rocky period. It is a risk reducer, it is based on a macro call (seasonality), & it works very well. We also LIKE the tax gain that comes with selling - as it means that we call sell something else that is not working, for an equivalent capital loss - & get our capital back - for just the cost of 2 commissions.

 

(1) Every hedge is a macro call over a specific period with a 2 in 3 chance of being wrong; you called wrong, or nothing really happened.

(2) Risk management trumps tax management

 

 

 

 

[SharperDingaan]

Keep in mind that XYZ was also bought in expectation of a material gain (2x, 3x, etc.) over time.  Most folks would see a 20% price rise as just a confirmation that their thesis is correct - selling just for a quick gain & then moving on defeats the purpose. Let your winners run & trim back only as new risks present themselves.

[ASTA]

SD

The good thing is that taxes are the least of my worry good setup now.

So basically if I feel like (mohamed el erian) for the week normally hate macro calls and have been wrong in not buying because of macro genie inside buy a 33% chance of being right some times.

As time goes on like you said risk management is key and as I have a fixed amount to invest I think that in my circumstances some hedging is prudent.

Like Seth Klarman hedging 10 years of under-performance then look like a super star (which I think he is :D) and his costs where over 2% a year.

.5% does not sound to bad then for some time.

Margin is not something I am comfortable unless Tarp Warrants situations.

I think the Macro genie will come out next week :D

[SharperDingaan]

You will find that selling off 50% of the position will work best for you. Very simple, you will be sleeping on a pile of cash, there will be no go-forward gain/loss changing your return YTD, & worst case - it may cost a little more cash to repurchase the sold shares if you are wrong. A pillow full of $100 bills is great for your sleep  ;)

 

Keep in mind that you also do not need to hedge a position 100% ...  you could also do a partial hedge, which is essentially an insurance policy with a deductible equal to the loss you are prepared to tolerate.

 

SD

[alwaysinvert]

Not much that is as psychologically arbitrary as YTD return. Anchoring in action.

[Chris DeMuth Jr]

What to do when stocks are expensive and bonds are crazy expensive?

 

I think that equity markets are mostly expensivish and credit markets are ultra expensive (although a bit less so in the past few months).  My reaction was to short the leveraged treasury ETF (TMF) coming into this year in order to deal with expensive credit markets.  In order to deal with expensive equities, I am light and selective.  What is worth doing if not broad stock or bond exposure?  Cash.  Here is where I park it.

 

Cash

I set up about 500 cash accounts invested in money markets, CDs, and savings accounts, all under federally insured caps and some with decent yields, in order to capture the optionality on potential equity conversions. 

 

Use intramonth credit card debt

 

In addition to the accounts that I funded with cash, I borrow on credit cards to fund several more – these collect interest on the account side as well as rewards on the credit card side.  When the credit card bills come, I pay them off online from the savings accounts.  Running through $250k/month, this has added up to plenty of AMZN gift certificates, Brooks Brothers certificates, airline miles, and cash back in Charles Schwab and Fidelity.  American Airlines is particularly advantageous as it locks one into the top of their loyalty program after only a year and a half of this strategy.  This strategy is not that scalable, but it has the charm of allowing one to read, dress, travel, and fund tax-advantage retirement accounts with no taxes (since rewards technically are classified as rebates and thus are not taxed), no risk, and no capital. 

Borrow

 

I want flexibility in addition to liquidity in order to be poised to take advantage of the next downturn.  So, I took out loans against 100% of the value of my home.  Rates are still extremely low and this flexibility could come in handy in the months or years ahead. 

 

Closed out of short volatility investment

 

Finally, I closed out my VXX and TVIX shorts last month.  Since late 2011, I had shorted them both as well as written calls and buying puts.  While I still maintain my concern with the securities in terms of their structural flaws, the expensiveness of the markets and the cheapness of the underlying volatility undermined my case for holding onto this potentially problematic investment given the market levels. 

 

[Packer16]

I like the conversion idea for cash.  Can you share the list of conversion candidates you have compiled? Have you had any conversion opportunities thus far?  TIA.

 

Packer

[Chris DeMuth Jr]

Yes, I have had many conversion opportunities thus far, but I've been at it for a while. 

 

I am happy to share notes with others working on this strategy or to respond with my thoughts on anyone else's investment ideas.  I am not, however, going to simply publish my portfolio as that would systematically dilute its value for no particular purpose. 

 

On this site and others, my simply publishing odd lot opportunities has proved to be quite unpopular, but that is nothing to how unpopular it would be and how many friendships I would jeopardize by simply publishing mutual conversion opportunities.

[Parsad]

In addition to the accounts that I funded with cash, I borrow on credit cards to fund several more – these collect interest on the account side as well as rewards on the credit card side.  When the credit card bills come, I pay them off online from the savings accounts.  Running through $250k/month, this has added up to plenty of AMZN gift certificates, Brooks Brothers certificates, airline miles, and cash back in Charles Schwab and Fidelity.  American Airlines is particularly advantageous as it locks one into the top of their loyalty program after only a year and a half of this strategy.  This strategy is not that scalable, but it has the charm of allowing one to read, dress, travel, and fund tax-advantage retirement accounts with no taxes (since rewards technically are classified as rebates and thus are not taxed), no risk, and no capital.

 

Hi Chris, aren't you charged interest from the day of borrowing, when it comes to cash on your cards?  Even if you pay lower interest...say 9.9% compared to 18.9%...do you still actually make more at the end of the day through the gift cards, etc after the interest rate? 

 

Or am I missing something here as a Canadian?  Do you guys have credit cards in the U.S. that let you borrow cash and still give you the normal 25 day grace period?  Cheers!

[oddballstocks]

Yes, I have had many conversion opportunities thus far, but I've been at it for a while. 

 

I am happy to share notes with others working on this strategy or to respond with my thoughts on anyone else's investment ideas.  I am not, however, going to simply publish my portfolio as that would systematically dilute its value for no particular purpose. 

 

On this site and others, my simply publishing odd lot opportunities has proved to be quite unpopular, but that is nothing to how unpopular it would be and how many friendships I would jeopardize by simply publishing mutual conversion opportunities.

 

There are places where lists of recent conversions can be found online. New conversions file IPO papers, and it's fairly easy to get a list of non-converted mutuals and MHCs.

 

There are quite a few newsletters that publish these lists as well. This information isn't quite hidden, but a little legwork is required. Like Chris I'm involved in these, but I prefer to remain tight lipped as well, there is a very close community involved in these things, and they aren't exactly shouting about them from the rooftops.

 

I as well a, happy to share notes and talk, but over email and not on the board.

[Chris DeMuth Jr]

The cards charge no interest intramonth.  The key is to find an institution that treats money markets/CDs/savings account subscriptions as "purchases" and not as "cash advances".  The rebates generally are worth 1% per month, with some having reached (but then pulled back from) benefits as large as 2% per month.  You are correct that this would not be worth it if you were paying interest.  I never have and never would. 

[Parsad]

The cards charge no interest intramonth.  The key is to find an institution that treats money markets/CDs/savings account subscriptions as "purchases" and not as "cash advances".  The rebates generally are worth 1% per month, with some having reached (but then pulled back from) benefits as large as 2% per month.  You are correct that this would not be worth it if you were paying interest.  I never have and never would.

 

Ah, I see.  Thanks Chris!  I try to max out all my purchases on my card, and pay the balance every month.  So I rack up quite a few gift cards each year and pay no interest.  But always looking for other ways to use free money and make a buck!  ;D  Cheers!

[giofranchi]

Curious with the run up in the markets. What are some ideas individuals are doing to hedge against a large market correction. I imagine there are some large profits in some stocks that people would rather keep for the long term rather than create a tax event but would like to protect some of their current gains. I kind of understand what someone like Ericopoly is doing but that is out of my league. Yet I would have the same potential tax problem here in Calif as he would.

 

Personally, I am concentrating my firm’s portfolio on those companies that I think will behave more resiliently, should a recession unfold together with a market correction. I still don’t see how we are going to solve our long-term problems easily or painlessly… And now, besides very high debts in developed nations, we also have high prices for almost all asset classes. Where are we going from high debts – high prices? Well, to low debts – low prices… As far as I am concerned, until I hear someone with a different thesis that is truly convincing, it is as simple as that!

 

Therefore, I am gradually selling those companies that have handsomely appreciated in share price, and I am concentrating funds basically in 3 companies:

FFH: 30% of my firm’s portfolio,

LRE: 20% of my firm’s portfolio,

BH: 9% of my firm’s portfolio.

 

A basket of shorts stays at 10% of my firm’s portfolio,

While Cash is around 20% of my firm’s portfolio.

 

giofranchi

 

[watsa_is_a_randian_hero]

The cards charge no interest intramonth.  The key is to find an institution that treats money markets/CDs/savings account subscriptions as "purchases" and not as "cash advances".  The rebates generally are worth 1% per month, with some having reached (but then pulled back from) benefits as large as 2% per month.  You are correct that this would not be worth it if you were paying interest.  I never have and never would.

 

Where/how do you find these?  Just opening credit cards and trying it (ie trial and error)?  I can't imagine this is a topic in a customer agreement or a topic you could call and ask them.