I’ve enjoyed 2013’s opening rally so much that I’ve just sat back and watched my account balance climb without adjusting much over the past three weeks.  I don’t have an exciting portfolio right now, but I don’t invest for excitement.  I invest to make money and that’s what I’ve been doing.  I came into this week with plans to buy puts for insurance after such a pop in stock prices, but we haven’t seen a real sign of weakness yet.  Today gave hints that it could be that day.  I still didn’t buy puts outright.

I looked over the naked puts I have in place already and they are all out of the money by 4-5%.  That’s about as much as I think any near-term correction might be.  So, instead of buying some insurance on these puts, I decided to let them run.  Because the majority of my account has a good cushion before I lose a penny, I’d actually like to see some profit taking within the indexes.  A drop of a few percent would give me a good lead over the indexes to start the year and more importantly, I wouldn’t lose any money at expiration.  UCO and QCOM are my two holdings that have more immediate downside possible, but I like both of them long-term and decided not to adjust them yet.  I could change my mind on UCO and buy a put spread, just in case sentiment shifts on oil.

I don’t have a bunch of upside left in my positions (outside of UCO) and don’t want to get reckless by adding in foolish trades after a 6% run higher in stocks in less than a month.  To give me something without risking much, I sold MDY put spreads.  While MDY was trading at $198.23, I sold two MDY February $200 puts for $2.94 each and bought two MDY $197 puts for $1.54 each.  I received $276.92 after paying $3.08 in commissions for the $3 spread.  I was planning to sell this spread for $1.35, based on the bid/ask of each put, but thought I should be patient with it and entered the order $0.05 higher.  It hit about an hour later for $1.40.

My mid-cap exposure was smaller than my allocations to both small-caps and large-cap stocks.  This trade changed that quickly.  I thought about going with EEM to get an international play in the mix, but it looks like it’s close to rolling over again.  I have trade triggers set to tell him if it moves much in either direction.  I might make a trade there still.  I also considered QQQ since I don’t have any weighting in tech.  AAPL did such a number on the NASDAQ today that it might be a good buy here.  However, I decided to give it another day first to see it right itself before I wade in.

Risk/Reward Breakdown:

  • Potential profit: $276.92
  • Money at risk: $323.08
  • Potential put spread return: 85.71%, 109.2% per month
  • Upside potential based on cash reserves (not that I have this cash in reserves): 0.71%, Annualized: 10.66%
  • Downside cushion: no cushion, need a gain of 0.21% to break even at $198.62
  • Downside risk based on value of underlying if assigned needed: 0.81%
  • Timing remaining before expiration: 3.4 weeks
  • Position close goal/limit: I’m aiming for full profit.  I’ll let it play out until the final week before the contracts expire.  If I think the downside is limited from there, I might take the assignment.  It would be 100% on margin if I do.  I have three weeks to decide how I’ll handle it.

The potential annualized gain on this trade is small.  I didn’t need to have a large gain since I’m not backing it with cash that I have available without using margin.  More importantly, I needed to make sure my downside was very limited.  I had to run a relatively tight margin to keep downside risk in check.  I’m just trying to pick up a few dollars while the market consolidates.  I’m still bullish on the year and this little put spread gives me room to make a quick profit if stocks keep moving higher.  If stocks drop, I’ll be positioned to come back in after a short lived sell-off.