By Steven M. Sears
Goldbugs, like ideologues and passionate lovers, possess
extraordinary convictions. They need them now more than they have
in decades. The yellow metal is undergoing a powerful decline that
will challenge their beliefs in ways many goldbugs have never
experienced.
Gold is dancing around a four-year low as the U.S. dollar rises
to a four-year high against the euro and a seven-year high against
the yen. Trading patterns in the stock, options, and futures
markets suggest prices will fall further. Gold recently traded at
around $1,148 per ounce, far from the halcyon high of about $1,900
in late 2011. It is down 11% in the past three months.
Back then, the U.S. dollar was weaker, and gold was viewed as a
hedge against inflation and the collapse of the western financial
system. Many serious people said gold would retain its value as the
U.S. dollar was systematically being devalued as the Federal
Reserve rescued the U.S. economy from the financial crisis.
Reality didn't follow the script. The U.S. dollar is trading
with vigor and gold is plummeting. The declines present an
opportunity for goldbugs to demonstrate their conviction. Less
passionate investors have different but equally intriguing
opportunities.
Consider options on the SPDR Gold Shares (ticker: GLD). The
exchange-traded fund tracks gold's price. It also trades in the
options market, offering investors the chance to offset some losses
and to wager on a snapback rally as investors sell gold.
Investors face two distinct trading opportunities.
One involves positioning for gold prices to snap higher simply
because so many investors are wagering on a decline. The trade is
predicated on nothing more than a belief that the market mob is
always too bearish or too bullish. The trade has nothing to do with
the price of gold, which is determined more by fear and greed than
financial analysis. As Humphrey Neill, the intellectual father of
contrarianism, said: The public is right during the trends but
wrong at both ends.
To wager on a rebound, consider buying the SPDR Gold Shares
December $110 call that expires Dec. 31. If the ETF rebounds
through year end, and reaches, say, $116, the $3.45 is worth
$6.
If you own gold, and do not want to sell, you can sell calls to
generate some added income. Consider selling SPDR Gold Shares
December $119 calls that expire Dec. 31 to collect 60 cents. March
$123 calls also can be sold. They were recently bid at $1.02.
Investors who want to buy more gold at a lower price can sell
December $105 puts for $1.30 that expire Dec. 19. If the ETF
remains above the $105 strike price, investors keep the premium.
Should the stock decline below the strike price, investors are
obligated to cover the put or buy the SPDR Gold Shares.
If you are interested in selling the put, be advised that the
trade is an aggressive contrarian stance. Within the gold patch,
some investors are expressing dour outlooks for gold-mining stocks.
This suggests gold prices are expected to remain so low that the
price of gold is too low to make money mining. Yamana Gold ( AUY),
for example, is trading at the lowest price in six years. When the
stock was trading around $3.62, investors sold 10,000 April $5
calls for 16 cents.
Anyone who trades gold's current maelstrom is stepping into one
of the market's most contentious trades. The options market is
pricing SPDR Gold Shares in anticipation of a sharp decline, but
what actually happens is beyond any rational pricing formula.
Gold's trajectory is a mystery "known" only to those who have
conviction.
STEVEN SEARS is the author of The Indomitable Investor: Why a
Few Succeed in the Stock Market When Everyone Else Fails.
Comments: steve.sears@barrons.com,
http://twitter.com/sm_sears
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