Buying Put Options on the S&P 500

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BuyAndHoldOn
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Buying Put Options on the S&P 500

Post by BuyAndHoldOn » Fri Sep 21, 2018 5:46 pm

[note: I haven't looked in to this a ton yet; still in the theoretical stage.]

I am considering buying [a] Put Option(s) on the S&P 500, and/or the Global Indices (MSCI ACWI etc.). Basically something to hedge stock holdings that would pay off if there is a market selloff. A selloff of 10-30%+, something noteworthy.

My reasoning is**:
1) I could reinvest the (in the money option) money in stocks after they have declined.
2) I would not fret about holding equities. My asset allocation in my long-term holdings calls for considerable equities (I am 30-40 years from Retirement).

Do any of you [bogleheads] buy Put Options? I realize this is Market Timing, but I feel like I win** because either the stocks keep rising (!) or my Put(s) pay off and I can reinvest/not panic in a selloff/downturn.

** = assuming the price for the level of protection is reasonable. That would be critical for this strategy.

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whodidntante
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Re: Buying Put Options on the S&P 500

Post by whodidntante » Fri Sep 21, 2018 5:58 pm

The issue is that the downside protection costs something. And you'll pay that something over and over and over as you roll your protection.

MittensMoney
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Re: Buying Put Options on the S&P 500

Post by MittensMoney » Fri Sep 21, 2018 6:09 pm

Define what 'reasonable' means in terms of the cost of the strategy, and you should have your answer.

I can buy a 1/18/19 $260 Put on VOO for $4.60. If I did this for every share I own, it would cost 1.7% (4.6/269) per quarter, every quarter, if the market continued to rise. I'd also need to think about parameters for cashing in that Put (is it 5% drop, 10% drop, a certain % profit on the Put?).

You're also going to eat Theta (time decay) every day if the market simply moves sideways.

Finally, you won't actually know how much this hedge would earn (save) you in the event of a downturn. That would be dependent on your parameters to sell the put, the size of the correction/crash/downturn, etc..

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BuyAndHoldOn
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Re: Buying Put Options on the S&P 500

Post by BuyAndHoldOn » Fri Sep 21, 2018 6:42 pm

Thanks for the replies. Sounds like this Market Timing strategy really is about timing: Not a great thing to keep on all the time.

String
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Re: Buying Put Options on the S&P 500

Post by String » Fri Sep 21, 2018 6:54 pm

Here is a link to a paper by AQR on the subject. Conclusion seems to be under the assumption of a volatility risk premium, reducing equity exposure is the way to go.
https://www.aqr.com/Insights/Research/W ... ctive-Puts

inbox788
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Re: Buying Put Options on the S&P 500

Post by inbox788 » Fri Sep 21, 2018 7:40 pm

BuyAndHoldOn wrote:
Fri Sep 21, 2018 6:42 pm
Thanks for the replies. Sounds like this Market Timing strategy really is about timing: Not a great thing to keep on all the time.
Do you need life insurance next week?

If you don't have it all the time, it's not a great thing not to have it when stuff happens.

Still, the cost of the premiums isn't worth it, and if OP is worried about losing something, buying insurance isn't the best option. Taking money off the table is simpler and less costly.

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JoMoney
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Re: Buying Put Options on the S&P 500

Post by JoMoney » Fri Sep 21, 2018 11:15 pm

You seem to be setting up this scenario where you sell stocks and expect someone else to sell them back to you later at a lower price. That's not likely to work out well. If the asset is desirable and expected to increase in value over time, you have a lot working against you in that position.
"To achieve satisfactory investment results is easier than most people realize; to achieve superior results is harder than it looks." - Benjamin Graham

PHD-2
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Re: Buying Put Options on the S&P 500

Post by PHD-2 » Fri Sep 21, 2018 11:22 pm

At 30-40 years from needing the money I think you have time on your side and it's best to forge ahead with you target AA and investing plan and not look back. A major hit to equities is likely not to be material to your long term goals. This has worked for me for 30 years. Make a plan, then stick and stay. It's been uncomfortable a few times but that why you have a plan. Take the emotion out of it.

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BuyAndHoldOn
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Re: Buying Put Options on the S&P 500

Post by BuyAndHoldOn » Sat Sep 22, 2018 3:31 pm

String wrote:
Fri Sep 21, 2018 6:54 pm
Here is a link to a paper by AQR on the subject. Conclusion seems to be under the assumption of a volatility risk premium, reducing equity exposure is the way to go.
https://www.aqr.com/Insights/Research/W ... ctive-Puts
Thanks, very interesting.

And thank you everyone else who has contributed to this thread.

danaht
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Re: Buying Put Options on the S&P 500

Post by danaht » Sat Sep 22, 2018 3:39 pm

OP - Traders buy put options. Traders consider that insurance if the short term trade does not work out. Long term buy/hold investors usually don't buy put options. There is no need for a long term investor to do it - because a long term investor is never trying to time the market. A long term investor usually holds their investment for decades and usually will not need to withdraw the investment during a market recession.

Are you a trader or are you an investor?

UpperNwGuy
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Re: Buying Put Options on the S&P 500

Post by UpperNwGuy » Sat Sep 22, 2018 3:39 pm

And one other thing to consider.... you'd have to change your user name if you adopted this strategy, because your current user name would no longer be true. :happy
Last edited by UpperNwGuy on Sun Sep 23, 2018 3:57 am, edited 1 time in total.

JackoC
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Re: Buying Put Options on the S&P 500

Post by JackoC » Sat Sep 22, 2018 4:47 pm

String wrote:
Fri Sep 21, 2018 6:54 pm
Here is a link to a paper by AQR on the subject. Conclusion seems to be under the assumption of a volatility risk premium, reducing equity exposure is the way to go.
In fact if there's any 'inefficiency'* it's periods in the past where *selling* stock index put options, as your whole investment strategy, beat being long the stock market. That is, if you had $1mil to invest in the S&P, instead sell at-the-money put options every month on $1mil worth of the S&P, and invest the cash not required for margin in 'riskless' interest bearing investments. That strategy outran the S&P in *return* (which 'theoretically' it should not), at lower risk, for a long time in the 'modern' era where there's good option pricing data (IOW cumulatively from ca. 1990 up to around mid 2010's). It spawned at least one ETF based on the idea (PUTW), though like any ETF based on an 'anomaly' the extra expense ratio v DIY would probably take a good deal of the juice out of it even if it persists. And the strategy hasn't done as well in recent years with predominantly low option prices, containing apparently generally narrower risk premia. PUTW is well behind the S&P during its existence since 2016, though it still has a slightly higher Sharpe Ratio according to Fidelity's fund evaluation site.

But buying out-of-the-money stock index** put options is one of the most negative expected return things you can do in recent times, along with the similar idea of being long VIX futures. Those are things pretty much gteed to give super returns when things are going super badly (treasuries might do to some extent but not as much and not as automatically). It stands to reason that if most investors are risk averse that something which relieves the anxiety of being long during those nerve wracking episodes, which nobody seeks to experience, would be priced for negative expected return over time. And it's pretty unsurprising if you'd lose more return with that kind of insurance than by just having a lower % in stocks.

*taking as a given it's difficult to distinguish true market inefficiencies from situations where 'risk' isn't being correctly defined. In the classic modern finance approach of simply defining 'risk' as std deviation of return, a number of things have tended to look fairly persistently inefficient. They wouldn't necessarily if you defined 'risk' in some more complicated way.
**not necessarily single stock options, or not as much anyway.

EZ James
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Re: Buying Put Options on the S&P 500

Post by EZ James » Sat Sep 22, 2018 5:40 pm

I can't find the source but I recall reading back in the mid-nineties about the Getty Foundation losing $500M on portfolio insurance. The board of directors was convinced the market was about to dump and bought "insurance" which I assumed to be puts on the index. Things went against them.

Theoretical
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Re: Buying Put Options on the S&P 500

Post by Theoretical » Sat Sep 22, 2018 6:23 pm

danaht wrote:
Sat Sep 22, 2018 3:39 pm
OP - Traders buy put options. Traders consider that insurance if the short term trade does not work out. Long term buy/hold investors usually don't buy put options. There is no need for a long term investor to do it - because a long term investor is never trying to time the market. A long term investor usually holds their investment for decades and usually will not need to withdraw the investment during a market recession.

Are you a trader or are you an investor?
A buy and hold can buy puts to counteract concentrated single stock holdings with capital gains (or locked up) while investing their other assets in a more diversified stock basket.

epeterson1970
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Re: Buying Put Options on the S&P 500

Post by epeterson1970 » Sat Sep 22, 2018 6:35 pm

What about selling cash covered Puts on the S&P? You would get option premium up front. You would have to have cash, in the event someone exercised their option however.

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whodidntante
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Re: Buying Put Options on the S&P 500

Post by whodidntante » Sat Sep 22, 2018 7:08 pm

epeterson1970 wrote:
Sat Sep 22, 2018 6:35 pm
What about selling cash covered Puts on the S&P? You would get option premium up front. You would have to have cash, in the event someone exercised their option however.
So, do the opposite?

Starfish
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Re: Buying Put Options on the S&P 500

Post by Starfish » Sun Sep 23, 2018 12:10 am

Selling covered calls probably makes more sense.
Buying puts is too expensive unless you go really low in price.
However you can do both. Use the money from covered calls to buy puts. In this way you limit the price variance.
Or you can achieve similar results changing your AA.

ThrustVectoring
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Re: Buying Put Options on the S&P 500

Post by ThrustVectoring » Sun Sep 23, 2018 1:58 am

Theoretical wrote:
Sat Sep 22, 2018 6:23 pm
danaht wrote:
Sat Sep 22, 2018 3:39 pm
OP - Traders buy put options. Traders consider that insurance if the short term trade does not work out. Long term buy/hold investors usually don't buy put options. There is no need for a long term investor to do it - because a long term investor is never trying to time the market. A long term investor usually holds their investment for decades and usually will not need to withdraw the investment during a market recession.

Are you a trader or are you an investor?
A buy and hold can buy puts to counteract concentrated single stock holdings with capital gains (or locked up) while investing their other assets in a more diversified stock basket.
This should only be done with the advice of a tax professional - there's complex "constructive sale" rules you could fall afoul of and wind up owing capital gains on the concentrated stock holding, depending on how you build the strategy.

Valuethinker
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Re: Buying Put Options on the S&P 500

Post by Valuethinker » Sun Sep 23, 2018 7:33 am

EZ James wrote:
Sat Sep 22, 2018 5:40 pm
I can't find the source but I recall reading back in the mid-nineties about the Getty Foundation losing $500M on portfolio insurance. The board of directors was convinced the market was about to dump and bought "insurance" which I assumed to be puts on the index. Things went against them.
If it was Portfolio Insurance I suspect that was the Crash of 1987 (October 19, 1987)?

Portfolio Insurance, sold heavily as a product in that period, was credited in subsequent investigations with being a major factor in the -19% fall in the S&P500 on one day.

It pretty much ceased as a product after that. The buyers had tried to claim on their insurance, in effect, and as a result the insurance had not worked.

Valuethinker
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Re: Buying Put Options on the S&P 500

Post by Valuethinker » Sun Sep 23, 2018 7:34 am

epeterson1970 wrote:
Sat Sep 22, 2018 6:35 pm
What about selling cash covered Puts on the S&P? You would get option premium up front. You would have to have cash, in the event someone exercised their option however.
EDIT: my comment didn't make sense as I confused writing a naked Call (one should never do this) with writing a Put.
Last edited by Valuethinker on Sun Sep 23, 2018 12:15 pm, edited 1 time in total.

epeterson1970
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Re: Buying Put Options on the S&P 500

Post by epeterson1970 » Sun Sep 23, 2018 10:58 am

Valuethinker wrote:
Sun Sep 23, 2018 7:34 am
epeterson1970 wrote:
Sat Sep 22, 2018 6:35 pm
What about selling cash covered Puts on the S&P? You would get option premium up front. You would have to have cash, in the event someone exercised their option however.
Since writing a Put has a theoretically unlimited loss, can you cash cover such an exposure?

Isn't the only true hedge to hold the underlying?
How would writing a put have an unlimited loss? I don't understand.
You would have to have cash on hand to cover the contract in the event that it was exercised. That would be dependent on the strike-price. The option premium would lower your cost per share. You would get the S&P at a discount.
If it expires you keep the premium and do it again.
I think 80% of options go unexercised so I want to be on sell side

epeterson1970
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Re: Buying Put Options on the S&P 500

Post by epeterson1970 » Sun Sep 23, 2018 11:13 am

whodidntante wrote:
Sat Sep 22, 2018 7:08 pm
epeterson1970 wrote:
Sat Sep 22, 2018 6:35 pm
What about selling cash covered Puts on the S&P? You would get option premium up front. You would have to have cash, in the event someone exercised their option however.
So, do the opposite?
Yes

Valuethinker
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Re: Buying Put Options on the S&P 500

Post by Valuethinker » Sun Sep 23, 2018 12:14 pm

epeterson1970 wrote:
Sun Sep 23, 2018 10:58 am
Valuethinker wrote:
Sun Sep 23, 2018 7:34 am
epeterson1970 wrote:
Sat Sep 22, 2018 6:35 pm
What about selling cash covered Puts on the S&P? You would get option premium up front. You would have to have cash, in the event someone exercised their option however.
Since writing a Put has a theoretically unlimited loss, can you cash cover such an exposure?

Isn't the only true hedge to hold the underlying?
How would writing a put have an unlimited loss? I don't understand.
Brain dead. I had been thinking writing a call, and wrote writing a put.
You would have to have cash on hand to cover the contract in the event that it was exercised. That would be dependent on the strike-price. The option premium would lower your cost per share. You would get the S&P at a discount.
If it expires you keep the premium and do it again.
I think 80% of options go unexercised so I want to be on sell side
Thanks. That makes sense.

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