The LEAPS Trader
105 W. Monument Street
Baltimore, MD 21201
Thursday, June 21, 2007
Email – #381
** China, Part II
There was a good reason why we only took a half position in the China put trade – the ishares FTSE/Xinhua China 25 Index (NYSE: FXI) January 2009 $80 LEAP put options (VHF-MP). You just never know how high a market will go when it has passed the point of absurd valuations. I recall back in the day when the Nasdaq just kept going higher and higher, regardless of true valuation. It finally fell, and fell hard, but not until every short-seller was broken.
That is why we use LEAPs. It affords us a very low cost way of being contrarians on China. And it gives us time. Back during the Nasdaq collapse, many of the companies that were moving up $50 and $100 a week had no options… let alone LEAP options. This lack of derivatives forced investors to short stocks – if they could afford it. Let me tell you, having a $100 move against your position is a heck of a lot more painful than having a LEAP option move 50 cents!
We will pick up the second half of this trade (VHF-MP) if and when the options are at $2.20 on the offer or lower. This will reduce our cost to between $2.80 and $2.90. I will send another alert out when the time is right.
We chose a strike that is way out-of-the-money for two reasons. First, these China put options are expensive, an indication of the type of volatility in the underlying issue. And we chose the option because we have a lot of time left. When the China frenzy cracks – and it will crack – the downside action will be swift and painful, enough to add to the premium of the put options that are out of the money. The big questions are: When will this happen? Just how contrarian are you?
Good trading,
Karim
