Reasonably Thinking

Today was options expiration day.  I had 3 put spreads on SDS that needed tending.  This trade was originally initiated in March, sending me a positive cash flow of $1,028.97.  Today, I covered the short options for $(779.98), and my long options will expire.  This nets me a $248.99 profit on the trade.

Now, since I still believe that the market is overvalued, I would normally consider rolling this position into a new position.  However, I preempted this with SDS put spreads in August and an SSO put earlier this week.

If the market trends higher over the coming weeks, I would be tempted to add to this position or take gains in other positions.

Today, I’ll be the guy on right.

Basel 3, a new set of international banking rules, was passed today.  The markets cheered this triumph, and stocks rose.  However, there are still many underlying problems both with our economy and banking system.

To add to this, I still believe the market is well overvalued (and has been for most of 2010).  John Hussman echoes this in his weekly commentary.

Betting against this short-term market blip, I initiated a short position by purchasing the January 2011, $46 put option on SSO, for $9.30.

This trade may look familiar, since I ease into and out of SSO and SDS positions throughout the year.  In February, I bought two SSO puts and sold them for a profit in May.  In June, I shorted SSO shares outright and then covered them for a profit in late August.  Here is a nice visual of how I have bet against the market throughout the year.  Instead of buying low then selling high, I have become rather adept at selling high and buying low.

(Image originally sourced from Google Finance)

With the market increase over the past week and a half, I decided to add a negative position.  I shorted 50 shares of SSO at $37.15.

A continuing theme I have opined about since October, is that the economy is on shaky ground.  Further, nothing in the private sector has convincingly driven growth—a theme highlighted by John Hussman yesterday in his Weekly Comment.  At this stage of the game, I refuse to believe that any published GDP is a sign of relief unless it is concurrently free from federal deficit spending.  In my eyes, taking on debt to increase assets fails to address the negative equity problem.

Independent from the economy, I still believe the market is overvalued, and this trade is a direct play on that theory.

As for executing the trade, and given the nature of how ultra leveraged ETFs work, I would rather short the ultra long (SSO) than long the ultra short (SDS).  Yes, there is always a risk of a broker forcing me to cover in a squeeze, but the long positions are also susceptible to sudden price drops.

To hit the rewind button, I originally bought the June $44 put for $8 on 2/2/10 and sold it on 5/25/10 for $10.20, netting me a gain of $420.96.  Today it is only worth $6.15.  Clearly this is an example of buying low, selling high, and essentially buying low again.