Monday, August 22, 2011

Taking Profits in Gold

CCI decided today was the day to take profits in the gold options trade that was in play.

To refresh the reader's memory, CCI sold Sept $57 puts in the gold miners etf (GDX) and bought Sept $148 gold options (GLD) in mid April  for a small net credit.  Unwound both positions for a net gain of 29.1% on risk capital.  Obviously this worked very well as a hedge against the rest of the stock portfolio.  This small amount of leverage, and large move in the price means that this option play (essentially a risk reversal) actually outperformed a more simple purchase of GLD, which was up  27.9% during the same period.   (google doc of transaction data can be found here) More importantly, this option trade would have likely lost less if our timing was bad and gold had dropped over this period. 

It is never easy to fight the greedy desire to keep this trade running.  That seems particularly challenging with gold which really has no fundamental metrics (i.e. earnings, revenue, etc) upon which to determine a fair value, and hence decisions seem even more emotional. No one really knows where gold will go from here, but CCI decided now was the time to take profits for several reasons including:
  • Gold seems like its momentum is never ending.  Using the "law of round numbers"  (lol) $2000/oz could be in the cards.  That is well less than 10% up from here.   However, the move has been so parabolic it just seems like if the big money exits this trade it could loose a lot more than 10% very quickly.
  • These options expired in Sept. While that is still 4 weeks away, some action would have to be taken soon.  So why not now. To me that is one of the advantages of forces an investor to make proactive decisions  vs. falling into passivity. 
  • Option volatility is high and hence now is an advantageous time to sell.
  • This rapid move in gold does not seem healthy, and hence some "entity" might want to slow the momentum down.  For example: Some government deciding to sell a lot of its gold, or more likely exchanges raising margin requirements. 
  • Alternative uses for this capital in the stock market is more compelling than it was a month ago.
So, we are out of this trade, but still hold some shares in the gold miners(etf) to represent gold in the overall portfolio.  If gold does pull back, we will likely reestablish a position in gold , possibly via options.

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