I would like to learn to protect an equity portfolio from pain with a low cost collar(buy put sell call). I don't mind spending some money(maybe 5% of the portfolio on the spread if I can keep the put strike nice and close to the current level of the market. If it can be zero cost collar sweet. As you will see I have a nice portfolio of dividend payers with an avg of .71 beta. How do I construct this low cost one year collar? ES, SPY, SPX options? Why one or the other? I would like specifics so I can go out and papertrade this spread with the stocks to see it in action. Any help is much appreciated. ltp
I notice no one has responded, so I'll make my comments and folks who know better can correct me. 1 - I don't think that you'll get a perfect correlation between your portfolio and any ETF. Because of this, you'll have risk that your holdings could move against you while the ETF does not move, or moves less, or in the wrong direction, thereby leaving you with an unhedged loss. 2 - I don't know what trading level you have with your broker, but unless you're authorized to sell naked calls on those ETFs, you won't be able to put this trade on. 3 - You could collar each holding individually. If you went that way, then here are some considerations: You mentioned wanted "Low Cost", but you also wanted "close to the current market level". Obviously, ATM puts are expensive, OTM puts are cost less. If you pay for the puts by selling very tight CC's, then you'll probably get called away every time the dividends are about to be paid. I'm guessing that harvesting the dividends is at the heart of your idea. If pushed for an opinion, I would say that a wider collar is called for. you will assume some downside, but limited risk, you'll have some room to ride with the stock if it moves up, and your chances of holding the stock to receive the div is improved. SDNYC
A zero cost collar usually means that you're somewhere near the midpoint of the collar. If you want better protection (eg. keeping "the put strike nice and close to the current level"), the collar will be a debit. Collaring individual issues is more time and commission intensive but it's more precise. OTOH, a correlated index or ETF (or two) involves less of both but you run the risk that bad news in one of your holdings won't be reflected in either of these. Here's a site for determining correlation: http://www.sectorspdr.com/correlation/