Yesterday I missed a better opportunity to get back into UCO (an ETF that tries to match twice the daily performance of the Dow Jones UBS Crude Oil Sub-Index). Little did I know a nice mini-rally was coming for oil starting just a few minutes after I decided to sell new naked puts on the ETF. The irony is that I mispriced my options by about a nickel. The bid/ask was somewhat wide and I went too high. I think a nickel lower would have triggered a trade, but know that a dime would’ve done it for sure. That’s spilled milk now and there’s no reason to cry about it with UCO a full dollar higher than yesterday morning.
After seeing the rally last the entire day yesterday and my order never hitting I decided to wait for the oil inventory numbers to be released this morning to decide on my next move. When oil popped higher I canceled my first order and entered a new one. By this time UCO was up by more than $1.25 from where I could’ve gotten in yesterday. While UCO was trading at $14.26 I sold four UCO December 13 naked puts (UCOXF) for $0.85 each and received $327.00 after commissions. I admit I chased the trade more today and should’ve waited for UCO to come off its highs some. It’s been a couple of hours since my limit order hit and now I see I could’ve done better by a dime.
With UCO bouncing higher so much in the past 24 hours and my strike ending up a dollar higher than I originally planned, I decided to only sell four puts instead of six. I thought it wiser to leave more room to add to my position if oil comes down again before expiration which is fairly likely with over six weeks remaining before December expiry. I thought about selling the November options, but figured I could use the higher premiums offered four weeks later and expect volatility to continue to be high. I finally decided on the $13 strike for two reasons. I wanted the higher premium and thought I could afford the risk with less than $5,000 on the line. Also, if the recent price history for UCO is any reflection of how future prices might play out, the $13.00 area looks like a good point of support. The premium gives me a cushion below that and if UCO drops below $12.00 again, I’ll probably sell an options straddle on it to potentially add to my position at a lower price while taking in premiums on both sides.
Since you sold the naked puts on the etf, you are expecting a rise in the price of crude oil – how do you think the dismal US economy will effect the price in the short term? If people are losing jobs, not spending, and buying more efficient cars, what do you see as the catalyst for the price of crude going forward? China / Iran / Israel? (I used to trade the DXO until it was closed down).
Michael, I think the economy will turn eventually and the price of oil will rise with the increase in demand. I expect the short term to remain volatile, but with my cost a couple of bucks below the current price for UCO I don’t see a huge amount of risk for it. Oil isn’t going to $0 ever and I’d be shocked to see it below $50 (and probably not below $60) any time soon. China and the Middle East always factor in, but that’s a constant so I can’t say that changes my thought process this month vs any other. It’s going to be years before the more fuel efficient cars make a difference, especially when you offset that with people who (one day) will be back on the roads driving to work again.
Michael, the price of oil doesn’t need to rise for this trade to make money.
Exactly. As with most of my positions, the underlying security has room to drop some and still leave me with a profit. Therein lies the beauty in selling out of the money naked puts. I’d almost prefer a slight dip by expiration so I can re-write the contracts without having to chase oil higher.