Options for the Precious Metals Conundrum

by Lawrence Meyers | January 30, 2013 9:13 am

Options for the Precious Metals Conundrum

So, what to do about precious metals?

It’s been difficult to sit on the sidelines and watch both gold and silver explode over the past few years. Yet trading the precious metals can be a dangerous game[1]. I’ve tried to do it, and have failed every time. So, is there a way to profit off the metals? Well, you could start by giving these options a try.

For the time being, the most obvious catalysts to gold’s movement seem to have been eliminated. These included quantitative easing by the Fed — which everyone thought would kill the dollar — and a rush to hard assets during the financial crisis. Neither seem to be pushing the gold market higher. Gold seems to have settled into a range, yet because there is always some degree of volatility, it makes options a good play.

Gold

The SPDR Gold Trust (NYSE:GLD[2]) is probably the best vehicle to use with options. As of this writing, the shares trade at $161. We’re fortunate that there are strikes at every dollar interval for March, and even better, there are plenty of strike dates.

If you don’t yet hold any gold in your portfolio, and you think you should, this is a great situation. You can either buy the shares and sell covered calls against it, or sell naked puts. If your shares get called away, you can always repurchase and re-sell the calls. If shares get put to you, you wanted gold anyway, you just got it at an effectively lower price than it was put to you at. Even better, if it isn’t put to you, you got some free coin.

The March 28 $161 Puts are going for $3.05, so you could sell those and either get the shares put to you, or not if the price is higher than $161 on that date. If you want to be particularly greedy, go for the January 2014 $161 puts, which cost $9.50. Personally, I wouldn’t want to be exposed over the long-term with precious metals, in the event that prices collapse.

Silver

The iShares Silver Trust (NYSE:SLV[3]) is one way to play with the white metal. Silver has experienced more volatility than gold, so that means there are some juicier premiums here. Also, because the price is one-fifth that of GLD, you can play with these options in bulk.

As of this writing, SLV is trading at $30.32. The March 16 $30 Puts are going for 75 cents, but in this case, I like buying the underlying and selling the March 1 $30.50 Calls for 66 cents for a slightly higher overall return. Longer-term options are also interesting. Whereas you were looking at about a 6% return for GLD in January 2014 for the puts, you can get a 10% return on the SLV January 2014 $30 puts, which trade at $2.85. Again, though, you are risking a big dump in silver price at that expiration date.

If you are thinking long-term, I will say that I don’t expect the bottom to fall out of either market in the next year. The economic conditions are such that people continue to move into hard assets and away from bonds, the Fed will continue to support QE, and retail gold buyers like EZCorp (NASDAQ:EZPW[4]) have been reporting declines in gold scrap sales, which means massive selling isn’t likely to hit the market.

As of this writing, Lawrence Meyers[5] held shares of EZCorp. He is president of PDL Capital, Inc.[6], which  brokers financing, strategic investments, and distressed asset purchases between private equity firms and businesses. He also has written two books[7] and blogs about public policy, journalistic integrity, popular culture, and world affairs[8]. Contact him at pdlcapital66@gmail.com[9] and follow his tweets @ichabodscranium.

Endnotes:
  1. can be a dangerous game: http://investorplace.com/2012/06/why-playing-gold-is-a-dangerous-game/
  2. GLD: http://studio-5.financialcontent.com/investplace/quote?Symbol=GLD
  3. SLV: http://studio-5.financialcontent.com/investplace/quote?Symbol=SLV
  4. EZPW: http://studio-5.financialcontent.com/investplace/quote?Symbol=EZPW
  5. Lawrence Meyers: mailto:pdlcapital66@gmail.com
  6. PDL Capital, Inc.: http://www.pdlcapital.com/
  7. written two books: http://www.investorplace.com/author/lawrence-meyers/
  8. blogs about public policy, journalistic integrity, popular culture, and world affairs: http://www.breitbart.com
  9. pdlcapital66@gmail.com: mailto:pdlcapital66@gmail.com

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