Commodity Investing

The Put-Sell Trade: How to Buy Gold and Silver for a Discount

The Put-Sell Trade: How to Buy Gold and Silver for a Discount

by Lee Lowell, Stock and Commodity Option Specialist
Monday, November 9, 2009: Issue #1133

No matter what the stock market is doing, this is one of the best strategies you can use.

It not only allows you to buy stocks for the price you want (at big discounts), but pays you for it, too.

I’m talking about put-selling – a strategy I discussed a few weeks ago, when I showed you how to buy gold.

When executing a put-sell trade, you should try to find a stock that you want to buy at a certain price and then sell the corresponding put options as your trade. You’ll receive cash upfront from the put-option buyer as a payment for your potential obligation to buy the shares at the price you choose. It’s a way of taking a neutral-bullish stance by way of the options market.

Here’s how our gold trade is working out, plus a new one on silver…

Shooting for a Discount On Gold

In our hypothetical put-selling gold trade, we used the SPDR Gold Shares (NYSE: GLD):

  • We sold the December 2009 $91 put option (GLD-XM) for $1.40 per contract.
  • This immediately deposited $140 per contract into our trading account.
  • For every put-option contract you sell, you’re obligated to potentially buy 100 shares of GLD at the $91 strike price.
  • So if you sold 10 put-option contracts, you’d receive $1,400 and you’d then be obligated to potentially buy 1,000 shares.

In our GLD trade, we came to the conclusion that we’d be happy to buy the stock, but only at $91 per share. This was roughly $6 cheaper than where GLD was trading at the time, and it also corresponded to the 200-day moving average support area.

Three Put-Sell Trade Scenarios

With gold rising recently, the corresponding GLD shares (GLD tracks the price movement of gold futures) have moved from $97 to $107. And when the stock moves up, the put-option prices get cheaper.

Tracking the price of gold futures

To see the chart in its original size, click here.

We have three put-sell trade choices at this point:

  • Buy back the options for cheaper than what we originally sold them for, hence locking in a profit. Currently, the December 2009 GLD $91 puts are worth $0.15 per contract. So we could buy the option back for $0.15 and close out the trade completely. This would lock in a profit of $1.25 per option, which translates into a dollar gain of $125 per option. If you sold 10 contracts, that would give you a gain of $1,250… free and clear.
  • Continue to wait until options expiration to see if the options will expire completely worthless.
  • If GLD actually finishes below $91 per share by expiration, we’ll be obligated to buy GLD at the price we want – $91. But the chances of that happening are slim.

Okay, so with that ongoing, let’s hit the silver market and see if we can turn a profit with the put selling strategy too…

A Put-Sell Trade On Silver

Since silver prices move in tandem with gold, it’s also trekking higher. The main exchange-traded fund that tracks silver futures is the iShares Silver Trust (NYSE: SLV).

Tracking the price of silver futures

To see the chart in its original size, click here.

If you think silver will continue to move higher, but want to get long at cheaper levels, you can adopt the same approach here as with gold: sell an SLV put option at a level where you want to buy the stock.

With silver futures currently near $17.40 per ounce, SLV is trading about $17.10 per share. SLV’s value is roughly the same as silver futures, whereas GLD’s value is roughly one-tenth the size of the gold futures price.

Regardless of the ratios, you can still sell put options to meet your needs. So let’s say we feel silver would be a good potential buy near $15 and take a look at a hypothetical put-sell trade.

  • The April 2010 $15 put option (SLV-PO) is currently worth about $0.70 per contract. So for every option you sell, you’ll receive $70. If you sell 10 options, you’ll receive $700.
  • With SLV trading at $17.10 per share, you’d then be obligated to buy SLV shares at $15 if it trades down to $15 at option expiration. If SLV stays above $15 over the course of the trade, then the options will expire worthless.

The Put-Sell Trade Bottom Line

When it comes to put option selling, as long as you’re comfortable with the potential buy area that you choose, it’s a great trade to execute. Not only do you get immediate cash when you execute the trade, you also lay the foundation to buy a stock you want at the price level you desire and lower your cost, too.

Good trading,

Lee Lowell

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