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Selling Puts Is Superior To Covered Calls
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Put Ladder On Barrick Gold Corp
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Moving Averages Trading Strategy
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Rescue Strategies for Bank Of America
 

 

June 22 2011  / Barrick Gold Corp- Stock Symbol ABX

Put Ladder On Barrick Gold Corp

Trying to rescue a trade while waiting for a recovery in ABX

 

Barrick Gold Corp Put Option Ladder

Recently I received this request from a reader regarding Put Ladders. "I read with great interest your article on laddered puts and Microsoft. I was wondering if it were possible for me to acquire a similar strategy with my naked put investment in the gold mining stock, Barrick Gold (ABX)?

In April, with ABX at $51.01, I sold 10 May 50 puts for 1.09. Being a perma-bull on gold and the gold mining stocks, I watched in horror as ABX shot down to 44 in a couple of weeks. By May 12, I had had enough, so I tried to move out in time and reduce the number of contracts at the same time. So I bought back the May 50 puts for 4.78 and sold the July 50 puts for 5.68. Unfortunately, ABX continues to make new lows, (now at 43 and change) so with 10 contracts, is it possible to turn this investment into a put ladder and reap the rewards in the future?

I cannot give out personal advice for obvious reasons, I am not a financial planner in any way, shape or form. You can read about it here. But instead I can give a hypothetical idea as if I was an investor who had done the above. This is is no way a financial recommendation or even financial advice. This is simply my idea.

First though I have to say that gold is a commodity, not a stock. Therefore if you like gold and you are a gold perma-bull, gold stocks are not the way to go. Gold stocks are mining stocks and in any market correction they will decline as investors flee. In a market crash they will collapse. They are stocks first and gold miners second. However the gold ETF's like GLD are based purely on the price of gold. There are also ETF's that will give 2X the movement in Gold. Personally if I was into Gold, I wouldn't buy anything but a straight Gold ETF.

Now back to the stock Barrick Gold Corp.

Barrick Gold Corp stock 2008 - 2011 chart

The above chart shows ABX for the past 3 years. Needless to say it has not always followed the price of gold which is evident from the chart.

In my example (as per above) I have sold 10 May 50 puts for 1.09 = $1090.00 in income. Then I rolled from May $50 to July $50 for an additional .90 or 900.00. To date then I have earned $1990.00. Now though I am getting a little worried. The stock is falling so what would I do in this case? A put ladder would be a great idea.

First I go to the chart. I can see that there are three distinct and repeated levels that Barrick Gold Corp has visited a number of times over the past 3 years. The 1st is at the $45 strike. That level has already been compromised. The second is at $40 which is a very common strike for ABX looking at the 3 years. The third is $34, which the stock has not seen since the Spring of 2010.

The question to ask myself is, do I think Barrick Gold Corp is a long term stock for me. I realize looking at the chart that at $50, it was the wrong put to sell. Just looking at the chart I can tell I should have sold lower or even waited for the stock to pull back and then sold and probably for May the $45 level and then rolled lower.

Since I like ABX and look at it as a long term investment, I don't yet want to be assigned at the $50.00 strike. The better thing to do might be to try a put ladder to reduce my cost basis in the stock.

To buy to close my 10 May puts will cost me $6.90 each. I buy to close 10 contracts at $6.90 each. - Total cost to close is $6900.00. However I have made 1990.00, so my net debit is reduced to $4910.00. What I would like to do is reduce my loss and set myself up to end up in ABX at a much better price point as I realize now that $50.00 makes no sense. By going lower into the stock I have a much better chance of reaping better profits when the stock recovers.

Looking at the chart I can see that I want to be in the stock below $45.00. Below $40.00 would be ideal as going back 3 years $40.00 is a very common strike. This would mean that if I could get into the stock at perhaps $38, I could possibly sell covered calls at $40.00 and be exercised out and then repeat the process.

PUT LADDER EXAMPLE 1

If I want to lower my costs basis and cover the $4910.00, I could consider this put, out to January 2012.

2 PUTS SOLD JAN 2012 $49.00 at $7.95 = $1590.00
1 PUTS SOLD JAN 2012 $48.00 at $7.20 = $720.00
1 PUTS SOLD JAN 2012 $47.00 at $6.50 = $650.00
1 PUTS SOLD JAN 2012 $46.00 at $5.85 = $585.00
2 PUTS SOLD JAN 2012 $45.00 at $5.25 = $1050.00
3 PUTS SOLD JAN 2012 $40.00 at $2.77 = $831.00
TOTAL INCOME = $5426.00
Total capital required is assigned on all positions = $44900 = $44.90 average cost of shares.
This puts me at the 1st level in my chart at $45.00. While it is still above today's stock price it is $5.00 below my present strike and come January I can probably roll out again and further down. Meanwhile though, I have earned a profit with this put ladder.

PUT LADDER EXAMPLE 2

Another possible put ladder I could implement would place me lower into the stock but would create a small loss. This would be a trade off between a lower price with more potential for a larger profit should the stock climb higher and taking a small loss now.

2 PUTS SOLD JAN 2012 $48.00 at $7.20 = $1440.00
1 PUTS SOLD JAN 2012 $47.00 at $6.50 = $650.00
1 PUTS SOLD JAN 2012 $46.00 at $5.85 = $585.00
1 PUTS SOLD JAN 2012 $45.00 at $5.25 = $525.00
4 PUTS SOLD JAN 2012 $40.00 at $2.77 = $1108.00
1 PUTS SOLD JAN 2012 $39.00 at $2.05 = $205.00
TOTAL INCOME = $4513.00
Total capital required is assigned on all positions = $43300.00 = $43.30 average cost of shares.
This puts me below the 1st level in my chart at $45.00

PUT LADDER EXAMPLE 3

A final put ladder example I could implement would place me even lower into the stock but would create a larger loss. Again this trade off is for a much lower price with more potential for a even larger profit should the stock climb higher and taking a small loss now.

1 PUTS SOLD JAN 2012 $48.00 at $7.20 = $720.00
1 PUTS SOLD JAN 2012 $47.00 at $6.50 = $650.00
1 PUTS SOLD JAN 2012 $46.00 at $5.85 = $585.00
1 PUTS SOLD JAN 2012 $45.00 at $5.25 = $525.00
3 PUTS SOLD JAN 2012 $40.00 at $2.77 = $831.00
2 PUTS SOLD JAN 2012 $39.00 at $2.05 = $410.00
TOTAL INCOME = $3721.00
Total capital required if assigned on all positions = $38400.00 = $38.40 average cost of shares.
This puts me between the 2nd and 3rd level in my chart.
NOTE- THIS THIRD EXAMPLE USES JUST 9 PUTS RATHER 10 which frees up capital otherwise tied to the stock.

In any of the above trades, should an investor feel pretty comfortable with adding more capital to the trade, they could sell far out of the money strikes. For example they could sell the January 2012 $33 for .77 cents or the Jan 2012 $30.00 for .41 cents. These strikes are so far out of the money that an investor might consider them as a means to generate additional income and should Barrick Gold Corp collapse that low they would be assigned at very low levels indeed. It all comes down to comfort level and confidence in the stock by an investor.
 

SUMMARY

Before January 2012 I could roll the put ladder again at these same strikes. If I picked example 2 or 3 to do first, then the subsequent roll should cover any of the loss I have taken now and keep me well down in the stock. My preference would be for example 3. I would prefer to set up the put ladder now, take the loss of $1189.00 and then commence earning income by rolling the put ladder. To make sure I am not assigned early I would make sure to roll out the in the money put strikes at least a month early. To decide which example I would choose I pick the stock value level (as per my chart above) and then calculate what puts I have to sell in order to reach that level.

Creating a put ladder and calculating the levels to sell is pretty simple when you look at a chart. Sometimes I can use a 1 year chart and other times I need to go out further. It can be applied to any stock. Here for example is a stock I would never want to own or have a put ladder on - Bank Of America. In order to set up levels I have to go back 3 years to the crash of 2008 or 3 years.

Bank Of America Stock - 3 year chart

For my fellow Canadians, another example would be a favorite of mine, Bank Of Montreal Stock. This chart is from the Toronto Stock Exchange.

Bank Of Montreal Stock - 1 year chart

Put ladders are an excellent strategy which with each subsequent roll can create large gains to assist in paying for the stock when finally assigned. I have used put ladders for years and I have also rolled them for years on stocks. The most important aspect of a put ladder is to roll the in the money strikes early to avoid being assigned too soon. The idea of the put ladder is to keep rolling the ladder through up, down and sideways action in order to gather income to eventually pay for the stock. I am always excited when I finally earn enough income from my put ladder, to accept stock and pay for it with other people's money. Then I can reuse my capital and start all over again. 

It is a wonderful feeling when a stock is paid for without using my own capital. My Kraft trade is the perfect example. All the stock is paid for from the money I earned through selling naked puts. While I realize that most investors selling puts, do so to earn income without any intention of wanting the stock, it is important to understand that this is not my strategy. I plan to eventually own the shares, collect the dividend and sell calls under exercised out. Then I will start all over. If your strategy is to never own shares, then it is important to adjust any put strategy, including a put ladder, to select strikes to sell that reflect the desire to not own shares.

  

 

Disclaimer: There are considerable risks involved in all investment strategies. Trade at your own risk.
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