OPTIONS
SPY vs. SPY?
Hedging Market Corrections Using SPY Puts
by Matthew J. Stander
How do you protect your actively traded portfolio from the adverse
effects of market corrections?
Most active traders are well aware of the
impact that global macro economic events can have on individual stocks.
With the threat of rising energy prices, the Federal Reserve poised to
fight inflation, a slowing housing market, monstrous levels of consumer
debt, and pressure on the US dollar, there are plenty of reasons to be
concerned. But at the same time, not participating in the market could
mean missing substantial opportunities as these risk factors subside and
good news emerges.
This leads to the question of how we can protect an actively traded
portfolio from the adverse effects of a market correction. A bullish position
on even the best stock can be negatively affected by an overall market
correction.
One potentially powerful tool for protecting a portfolio against a significant
market correction is a protective put on the SPY exchange traded fund (ETF).
Buying put options on SPY, which tracks the Standard & Poor's 500,
can offer insurance against negative market moves and protect a portfolio.
This article explains how to determine the potential sensitivity of a portfolio
to market moves, how to calculate the number of puts needed to offset a
correction, and how to decide which puts to purchase. Because it analyzes
puts for their insurance value as a hedge against the SPY, we will only
consider purchasing puts with strike prices below the current SPY price.
Different types of analysis should be used when evaluating the purchase
of puts with strike prices greater than the current SPY price (in-the-money
puts).
...Continued in the April issue of Technical Analysis of STOCKS &
COMMODITIES
Excerpted from an article originally published in the April 2007
issue of Technical Analysis of
STOCKS & COMMODITIES magazine. All rights reserved. © Copyright
2007, Technical Analysis, Inc.
Return to April 2007 Contents
