As I imagine a sculptor might look at a fresh block of clay, wood or stone, so I gaze at the unused cash in my account, sometimes resentful and irritable at its dormant, unproductive state. In a world in which nearly all of us can use more, should any cash sit there doing nothing? I know what bankers have to say about that. And I know what advisors recommend. However, I need to get places faster. So I put my cash out there on the front line. For the industrious, there is no slacking when there's a job to be done. Up and at 'em, rise and shine. Get to work and better not whine.
With examples (meaning, using the actual cash I put to work today) I'll demonstrate my most frequent method of stuffing the coffers when I'm not happy with what's already in there. Here is my situation: my trades require a lot of cash in reserve, but I don't like that cash to lie down and take a nap. While my main strategy requires long-term monitoring and long-haul planning, there is a portion of cash that I need to keep liquid at or at least liquidatable with short-term notice, and there are ways to work that cash with only days-long commitments to a medium-risk, high-potential-return venture.
In this case, I decided to send $25,271.50 onto the playing field in the form of 1,600 short shares of UVXY from 15.21, and 16 long UVXY calls, expiration April 20th, strike 15. How much did I actually spend, though?
Cash is never spent on short shares; rather, an amount of cash equivalent to the value of the shares must be present in the trader's account as collateral for the borrowed shares, which eventually must be returned. Here's how it works: Upon my request, the brokerage locates and makes available to me shares that will be sold to someone else in the pool of traders lined up to buy, with the notation that they are out on loan from me, and I must return them to the brokerage, no matter how I have to get them and no matter what I have to pay. When they're sold to someone else (instantaneously), the proceeds of that transaction are deposited in my account. In order for the brokerage to feel good about participating in this hot-coal walk with me, I must keep the ever-changing market value of the shares in my account all the while, so there's no worry that I'll be unable to obtain them and return them to the brokerage. Here's the beautiful thing, though, or it could be ugly, depending on circumstances, but it's the entire essence of short-selling: No matter what the price of the shares to the buyer, all the brokerage wants back from me is the shares, so the trade can be closed and we can pretend nothing ever happened. When I short-sell them at 15.21, as I did, I can pay the same to buy them back, or I can pay more, or I can pay less. Paying more would satisfy the brokerage, but I'd be disappointed because with a credit of 15.21 per share and then a debit (to buy the shares to cover) any higher, I'd end up with less money in my account than when I started. Paying less would be great, though - what a dream it would be to pay $14, $13, $12, or even $10 per share to close the transaction. Why stop at $10? Short-sellers always dream about paying as close to $0 as possible. They want to pay 1 cent, ideally. In my 1-cent dream, I'd get a big credit from the brokerage for short-selling the securities, but I'd only have to pay a little to end my obligation regarding the shares (to close the trade by buying to cover), so I'd come out way ahead. But realistically, paying anything less than the amount of the credit received is the hope of any short-seller at the outset of a transaction. Of course, there are risks. More on that below.
So, at the push of a button on my desk, $24,330.30 in fresh dollars flowed into my portfolio, as 1,600 shares of UVXY flew somewhere else at the speed of light, bought by someone else, but requiring return to the brokerage like a library book you can entrust to any friend or even a stranger but you need to take back because it's your name on record regarding responsibility for that valuable book. Obviously, I hoped the share price would decline so I could return the UVXY by paying less for it than the credit I had just received, and keep the extra as profit.
Not wanting to take on unlimited risk, though, I decided to pay for a contract that would limit my loss, and I chose an expiration and a strike price for the contract. The calls cost $941.20 total. But I didn't stand to lose all that, should my trade not go as hoped. That's because holding them conferred to me the right to buy up to 1,600 shares of UVXY at the contracted price of $15.00 each. I had sold UVXY short at 15.21, and exercising the call options would mean I'd realize a profit of 21 cents per share if using the calls to buy to cover all 1,600 shares. Profit on the shares would total $336, and setting that against the $941.20 paid for the calls would mean my loss, in this event, would be $605.20.
As seen in the chart, at 10:27 AM, I sold short 1,600 UVXY at the price of 15.21. Watching and waiting for a drop in price for calls, I put off the associated call purchase until my nerves wore out, and I bought 16 UVXY April 20th 15 calls at 11:11 AM. Here was my plan, and if you follow my blog posts you will understand the reverse collar strategy: I hoped to sell puts for a price that would reimburse me for the purchase of the calls, and also allow me to make a profit on the short shares. The strategy is a calculation limiting my profit to a capped amount, but limiting my loss so that I won't take any loss at all, should the security move in the direction I had not hoped. To be precise, I would not need to sell puts that would bring in the exact 0.58 per contract that the calls cost me, because as mentioned way above, there was a profit on shares baked into the calls, in the event that I'd have to exercise the calls (due to a rise in UVXY above my shorting price.) In this case I could subtract the 0.21 profit from the 0.58 paid and I'd need to sell puts for only 0.37 at the strike of 15 to set up my reverse collar as a guaranteed max-loss-of-$0 outcome for me. But of course, I was not going to sell them at the 15 strike unless I could get a lot more for the puts, because that example calculation would not allow me to make any profit at all, so my goal was to sell puts at any lower strike, like 14.50, 14, or whatever market movements would allow, and ideally, bring in enough to cover my call expense, or more.
Let me say briefly that in my history of setting up these reverse collars, I don't think I've ever held them all the way to expiration of the options. But I've completely set them up numerous times. At least as many times, I only set up the calls before abandoning the search/wait for puts and closed the whole thing out. And frequently, I do it right away, because I don't want to find out what subsequent days will do to the expensive calls I just purchased. I don't really want to pay for calls and let them turn into lost money for me.
In this case. at 3:00 PM I decided that making $600 in just a few hours was too good to pass up, so I covered the shares for 14.57 and I sold the calls for 0.35, bringing in a net profit of $619.14. Then, also as seen in the chart above and in the graphic below, at 3:23 PM, I decided to start the whole thing all over again by shorting the same number of shares from 14.27, but then abandoned the whole plan at lightning speed after looking at call prices I didn't like, and I covered the shares just 14 minutes later for 14.20 (and how about my capture of the day's low in doing that?) That added another hundred dollars to the pile, and my take for the day was $720.
How does this compare to my plan? Well, I never completely set it up, but I was aiming for the 14.50 puts, and wanted to sell them for the exact 0.58 I had paid for the calls, although I was willing to be flexible. This is what the prices looked like for the puts I hoped to sell, while I checked back throughout the day. 38 cents wasn't good enough when I really wanted 58. Although, if you are really a math wizard, by the time you are finished reading this whole article, you'll see that I could have just taken the below-depicted 38 cents and sealed the deal for the same outcome I eventually got (the difference being I'd have to wait until expiration to close the whole trade.)
Below is a chart of the price of those puts throughout the day:
Had I waited, and had I been the trader to catch the tippy-top of the price action in UVXY April 20th 14.50 strike puts, I could have received 0.72 per contract for the 16 I intended to sell, or more realistically, it looks like it was hovering at the 0.65 level for a while, which was more than I needed to reimburse me for the call purchase, and enable a 0.71 per share profit on the shares, which comes out to $1,136, plus any gravy on the options. At 72 cents, it would be about 14 cents profit on the calls and puts netted together, or and additional $224. I am really counting my chickens here, eh? Or telling a theoretical fish story.
It comes down to this: I was looking at a maximum of about $1,100 profit on this deal, not including the extra I might have gotten with that great 65 or 72 cent premium on the puts, bringing it up to $1,300 or so, but the reverse collar, even when perfectly set up, also conveys a risk of making no profit at all, or a profit anywhere between nothing and the max determined at the time of complete setup. And I'd have to wait days to get the max profit or NO PROFIT, being locked in if wanting to try for max profit, had I set up the complete collar. I decided to take the immediate $600 and run. And then add a bonus to nudge up the day's total.
