Gold is a precious metal that is getting more difficult to mine. So in theory, its value should only appreciate over time. This combined with our thirst for the shiny stuff should (in theory) make gold a buy for the long-term.
In addition to trading gold itself, we can trade the gold miners. The Market Vectors Gold Miners ETF (NYSEARCA:GDX) represents gold miners, and I can trade its options like a stock. Another ETF is Direxion Daily Junior Gold Miners Index Bull 3x Shares (NYSEARCA:JNUG). JNUG is a 3x leveraged miners ETF that provides triple the returns (minus fees) of the GDX on a daily basis. Thus, if GDX loses 1%, JNUG should theoretically lose 3%.
Click to Enlarge Leveraged ETFs can be tricky to trade so be careful choosing ones that are liquid enough and relatively well-established.
Like gold, GDX should in theory be a long-term buy. But we don’t live in a theoretical world. Gold suffered a massive multiyear correction off its 2011 highs. GDX and JNUG followed gold down to extreme lows.
In addition to the down cycles in gold, GDX and JNUG are affected by operational issues associated with gold extraction and market demand for stocks. So GDX and JNUG have their fair share of down days. Even though gold miners are well off their 2016 highs, they are still having a great year, up 80%. This is largely in thanks to a similar performance in gold.
Click to Enlarge August has not been kind to either, though. GDX or JNUG both have suffered mini-corrections.
Today I want to capture a potential bounce off levels that have proven important for the past 12 months. This will be a pair trade. The first trade will capture the upside potential. The second will generate income to reduce my out-of-pocket expense.
I am not assuming that I am catching the absolute short-term bottom for JNUG or GDX. So, I can structure trades that would allow for enough time to capture the mid term potential.
Trade No. 1 – The Bet: Buy the JNUG Oct $21/$22 debit call spread for 20 cents per contract. To be completely successful, I need JNUG to rally past both legs of my trade by mid-October. To this, I will add another trade to reduce my out-of pocket risk. Just note that premiums are jumping around, so I’d bid lower than the middle, then walk it higher until it fills.
Trade No. 2 – The Bank: Sell the GDX Nov $22/$21 credit puts spread for 20 cents per contract. If successful, this trade yields 25% on money at risk. It has an 80% theoretical chance of success.
If I take both trades, I’ll be long gold miners for free. I would need a rally in JNUG past my debit call spread for complete success. Even if JNUG goes nowhere, I still have the chance of profit. Any premium I collect from selling the JNUG debit call spread would be pure profit as long as GDX holds higher than my November credit put spread.
Click to Enlarge I need to recognize the technical risk in gold at these levels. The SPDR Gold Trust (ETF) (NYSEARCA:GLD) one-year chart shows that the current level needs to hold. Otherwise, GLD could risk retesting the $122 area.
Nicolas Chahine is the managing director of SellSpreads.com. As of this writing, he did not hold a position in any of the aforementioned securities. You can follow him on Twitter at @racernic and StockTwits at @racernic.
