The S&P 500
SPX,
is within 3% of a record set in early September, and with the benchmark index doubling since its pandemic low in February 2020, the risk of a correction is growing.
Some investors are wondering what steps they can take to protect their positions and portfolios, without trying to time the market by selling before it drops and buying back in before a recovery is in full swing.
There are ways for investors to hedge their positions and protect their profits. The term “hedging” goes back to medieval times when property owners would plant hedges around their home like a fence for protection.
Most investors should stay invested for the long haul and ride out periods of inevitable market volatility. If they try to time the market, they tend to return to the market too late, and that erodes long-term returns.
At some point, we will experience another economic recession, which are usually accompanied by bear markets. The terms “bull” and “bear” markets go back to early California history when they would stage fights between the two beasts. The bulls would strike up with their horns while the grizzlies would stand up and strike down with their paws, so bull markets go up and bear markets go down.
Protecting yourself
One way of protecting positions is by using options. First, definitions:
An option is a derivative security that allows the buyer to buy or sell a security at a particular price within a set time frame. That price is known as the strike price.
A call option allows the purchaser to buy, while a put option allows the purchaser to sell.
A stock’s ex-dividend date is the date when it trades without the value of its next dividend included. All things being equal, a stock’s price will decline by the amount of the next dividend on the ex-dividend date. If you hold a stock before the ex-dividend date, you will receive the next dividend. If you buy it on the ex-dividend date, the seller will receive the next dividend.
Options are not suitable for all investors. A common options strategy is known as a collar. To put on a collar, you sell a call option and use the funds received from the sale of the call option to purchase a put option. It’s called a collar because you limit your upside potential by selling the call and your downside by purchasing the put.
When you sell a call, you are obligated to deliver your stock or shares of an exchange traded fund at the strike price by the expiration date if the underlying security is above that price. (In industry parlance, your position is “called” or “called away.”) If you purchase a put option, you have the right, but not the obligation, to sell your holding at the strike price by the expiration date.
Typically, collars are put on for a credit, meaning you receive cash for establishing the position and you keep that premium if the underlying stock stays in between the two strike prices. You can…
Opinion: Put a ‘collar’ on your stocks to protect yourself from a
The S&P 500
SPX,
is within 3% of a record set in early September, and with the benchmark index doubling since its pandemic low in February 2020, the risk of a correction is growing.
Some investors are wondering what steps they can take to protect their positions and portfolios, without trying to time the market by selling before it drops and buying back in before a recovery is in full swing.
There are ways for investors to hedge their positions and protect their profits. The term “hedging” goes back to medieval times when property owners would plant hedges around their home like a fence for protection.
Most investors should stay invested for the long haul and ride out periods of inevitable market volatility. If they try to time the market, they tend to return to the market too late, and that erodes long-term returns.
At some point, we will experience another economic recession, which are usually accompanied by bear markets. The terms “bull” and “bear” markets go back to early California history when they would stage fights between the two beasts. The bulls would strike up with their horns while the grizzlies would stand up and strike down with their paws, so bull markets go up and bear markets go down.
Protecting yourself
One way of protecting positions is by using options. First, definitions:
An option is a derivative security that allows the buyer to buy or sell a security at a particular price within a set time frame. That price is known as the strike price.
A call option allows the purchaser to buy, while a put option allows the purchaser to sell.
A stock’s ex-dividend date is the date when it trades without the value of its next dividend included. All things being equal, a stock’s price will decline by the amount of the next dividend on the ex-dividend date. If you hold a stock before the ex-dividend date, you will receive the next dividend. If you buy it on the ex-dividend date, the seller will receive the next dividend.
Options are not suitable for all investors. A common options strategy is known as a collar. To put on a collar, you sell a call option and use the funds received from the sale of the call option to purchase a put option. It’s called a collar because you limit your upside potential by selling the call and your downside by purchasing the put.
When you sell a call, you are obligated to deliver your stock or shares of an exchange traded fund at the strike price by the expiration date if the underlying security is above that price. (In industry parlance, your position is “called” or “called away.”) If you purchase a put option, you have the right, but not the obligation, to sell your holding at the strike price by the expiration date.
Typically, collars are put on for a credit, meaning you receive cash for establishing the position and you keep that premium if the underlying stock stays in between the two strike prices. You can…
Read More: Opinion: Put a ‘collar’ on your stocks to protect yourself from a