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|Debt Limit Options Hedge Follow Up - SPY Puts Gain 70% On Growing Uncertainty
On Wednesday we laid out two options hedges to insure portfolios against the
risks of a failed debt ceiling debate and/or downgrade: 1) Long S&P (SPY) puts
and 2) Long Gold (GLD) calls. The SPY Aug 132 puts we mentioned have done well,
gaining 70% to the current price of $4.33, while the GLD Aug 160 calls are +8%
To recap, we said we'd expect increased volatility and fear as the debt deadline
approached in the absence of an agreement, and that is exactly what has
materialized over the past few days. The S&P puts have been the biggest
beneficiary, as the VIX has spiked sharply on the growing concerns. The spiking
VIX illustrates the increased options premiums that are demanded as a result of
the heightened uncertainty. This uncertainty has resulted in a 4% decline in the
S&P this week and a 45% spike in the VIX. GLD has seen a more modest move this
week, gaining just 1.6%.
As far as the hedges go, the uncertainty remains but for those long the S&P
puts, it may make sense to lock a portion of the hedging gains in as the larger
negative delta puts now represent a larger short position. However, with no
solution a protective position remains prudent. The GLD calls have not done as
much, but the idea remains the same -- gold could be the ultimate safety shelter
if things deteriorate elsewhere.
The situation with regard to the debt ceiling remains in flux, with a very
important weekend approaching. Although most still expect an 11th hour deal to
get done, the market remains on edge and nervousness grows with each day that
passes absent a deal, as it increases the chance of default. Additionally, the
market has also been pricing in greater odds of a ratings agency downgrade. It's
still impossible to say how things will ultimately play out, and how the market
will react, so the idea of hedging longer-term positions around this period of
increased volatility still makes sense.
-Chris Borgmeyer, CFA