Reasonably Thinking

Volatility has commandingly descended over the past 5-6 months, and my long volatility positions have suffered because of this decline.  Of my two positions, I sold 10 VXZ today at $64.18.  While I still think investor complacency is abnormally high, I believe that I have better options for allocating funds than this security.  Taking this loss was clearly a swing and a miss, but I’ll move on.

Here’s an intriguing tidbit–Chinese Yuan has recently commenced trading in Moscow.  Now, this might not be a huge development, but it could become meaningful over time.  Perhaps this is an early step for China allowing its currency to rise.  In some sense, it would seem logical for China to unpeg from the US Dollar and let its interest rates rise.  The thought was intriguing enough for me to trade my DBV position into CYB.

  The trade:  Sold 50 DBV @$23.4499; Bought 50 CYB @ $25.19.

I read today that the Swiss National Bank had been aggressively purchasing Euros in early 2010 in an attempt to weaken the Swiss Franc relative to the Euro.  Now, I don’t know if this information was recently published or if I missed it during my original research.  Regardless, this action directly contradicts my investment thesis and therefore prompts actions.  With a small gain in this position, I gladly exited the trade.

Earlier this month, I sold shares of SDS to take a tax loss and shorted shares of SSO to maintain the position’s exposure.  Today, I made a similar two part transaction, which gives me a desired tax loss for 2010 while maintaining downward market exposure.  I bought to cover my SDS put spread (initiated in August) and replaced this position by selling an SSO call spread.

The trades:  Bought To Cover 4 contracts of 36/28 SDS Jan11 Put @ $7.75 for a total of -$3,115.06.  Sold To Open 4 contracts of 50/43 SSO Mar11 Call @ 4.00 for a total of $1,504.93.  Ideally, this replacement position would have been larger, but I didn’t have enough funds in the account.  Hopefully I can add to this short position in the near future.

For those of you new to harvesting capital tax losses, please read the example in the post directly below.

Both of these trades impact my Top Five, which has been updated accordingly.

These days, I can see my breath on my way into the office in the morning.  Once inside, a newly displayed Christmas tree decorates a main entrance.  Yes, it’s that time of year, where everyone starts planning for holiday parties, focuses on the final push of fantasy football, and hectically finishes their yearend shopping.  But as much as that artificial tree glimmers in decor, deep down I know that I’ve got some end-of-year capital gains to tend to.

With equities roaring over the past two days, I decided to take a tax loss on one of my short positions, while initiating a similar position with a different security.  Now, there’s a good lesson here, so I’ll walk through it…

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 Any profit on a securities transaction results in a taxable gain.  Likewise, any loss on a securities transaction results in a taxable loss.  During a calendar year, an individual can offset capital gains with capital losses.  The net capital gain factors into an individual’s income tax.  In effort to thwart the capital gains tax, someone could take a tax loss and then immediately reestablish the position with the same security; however, a wash sale rule exists that prohibits this activity for thirty days (in which the tax loss would be nullified).  Example:  George buys stock ABC at $20 and sells it at $14.  He has a capital loss of $6.  If he repurchases stock ABC within thirty days, the capital loss is void because of the wash sale rule.

To get around this, let’s say George believes that stock XYZ behaves similarly to stock ABC.  Perhaps they are competitors in the same industry or ETFs tracking similar indexes.  George can sell his ABC stock at a capital loss and immediately purchase stock XYZ.  In doing so, George maintains his general position and takes a tax loss in the process.

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What I expressed in the example is similar to what I accomplished today.  I owned SDS, which is an ETF that moves opposite the market.  Since I had a tax loss on it, I sold SDS.  To replace this position, I shorted SSO, which is an ETF that moves with the market.  I went from being long a short (long SDS), to short a long (short SSO).  My overall position remained neutral while I was able to take a tax loss of $2k.

The trades:  sold 100 SDS @ $25.48; shorted 60 SSO @ $44.95

The Top Five has been updated to reflect these trades.