Strategic Option Protection Increases Return, Decreases Risk

Burke, John B.; Wei Xu
July 2010
Journal of Financial Planning;Jul2010, Vol. 23 Issue 7, p64
Academic Journal
• Financial planners seeking to maximize returns can't avoid equities, but they can purchase insurance to protect against downturns in client portfolios. This paper deduces the cost at which such insurance—put options—is viable, and when it is likely to backfire on the client and planner • Of the various put options available to protect against a wide market decline, those on CBOE exchange-traded funds covering a broad number of stocks are the most appropriate hedging tool. Previous studies have looked at a strategy of continuously buying puts to protect a portfolio. While this is a fail-safe method, the costs of the hedging would so eat into returns as to make the strategy a less-than-optimum deployment of funds. A cost limit must be involved. • We simulated the purchase of put options at various cost intervals: 3 percent, 4 percent, 5 percent, 6 percent, 7 percent, and 8 percent, not just in one-year tranches but also using six-month options and three-month options. We also tried choosing the options within all expirations with the cheapest cost (annualized), as well as a continuous-hedging strategy. • For the S&P 500, the best strategy was to select the put option with the lowest annualized cost but with a limit of 4 percent. • The "4 percent solution" isn't just theoretical, but of great practical guidance, as such hedges at 4 percent or less were applicable 75 percent of the time studied. The opportunity to purchase such put-option insurance should thus be available to financial planners most of the time, perhaps even the vast majority of the time.


Related Articles

  • Layoff Business in Crosshairs. Mehta, Nina // Traders Magazine;Feb2007, Vol. 20 Issue 263, p58 

    The article reports on the expectation of the Chicago Board Options Exchange Stock Exchange (CBSX), Illinois, to grab 6 to 7 percent of the overall business equities as revealed by CBSX president David Harris. It states that the CBSX's hybrid market includes a sufficient electronic platform with...

  • A bull market for ‘fear index’. MAREK, LYNNE // Crain's Chicago Business;9/24/2012, Vol. 35 Issue 39, p0003 

    The article focuses on trading on Chicago Board Options Exchange (CBOE) Holdings Inc., a small futures exchange where one can bet on futures linked to the Volatility Index. For 2012, CBOE trading rose 67 percent over 2011. It also benefited from the financial crisis as big investors such as...

  • Banner year so far at CBOE. Ryan, Kate // Crain's Chicago Business;5/15/2006, Vol. 29 Issue 20, p14 

    The article reports that the Chicago Board Options Exchange (CBOE) has increased its overall marketshare due to the fierce competition this year. The CBOE's trading volume this year as of April 30, 2006 was 204.9 million contracts, 41% higher than in the first four months of 2005. CBOE's...

  • CBOE: Unbowed.  // Futures: News, Analysis & Strategies for Futures, Options & Deri;May2008, Vol. 37 Issue 5, p62 

    The article focuses on the issues concerning the bylaws for Chicago Board Options Exchange (CBOE) written by Chicago Board of Trade (CBOT). It states that the members did not explicitly give themselves ownership over the fledgling exchange, instead, they offer themselves access to the CBOE...

  • Series 56 Exam Deadline Pushed. Chapman, Peter // Traders Magazine;Oct2011, Vol. 24 Issue 329, p24 

    The article reports that the deadline for Series 56 examination of the members of International Securities Exchange and the Chicago Board Options Exchange (CBOE) was pushed on September 12-October 29, 2011. It states that the Series 56 is administered by the Financial Industry Regulatory...

  • Handling Stock Volatility With ETPs.  // Research;Apr2012 Supplement, p7 

    The article suggests various ways to handle the stock volatility. Several strategies are mentioned in order to handle stock volatility like volatility index is also called as barometer of stock market fear and it is a measure of expected future volatility calculated by the Chicago Board Options...

  • CBOE Ready to Roll Out Hybrid Trading System. Clary, Isabelle // Securities Industry News;4/28/2003, Vol. 15 Issue 17, p1 

    The Chicago Board Options Exchange (CBOE) in May 2003 is slated to begin the rollout of its most advanced hybrid project to date, HyTS, which will display individual market-makers' streaming quotes on-screen and fully open its order book to investors and professionals. The new system runs on the...

  • Directed Order Decision Polarizes Exchanges. Hintze, John // Securities Industry News;6/13/2005, Vol. 17 Issue 23, p30 

    Reports on the decision of the U.S. Securities and Exchange Commission to approve the separate but similar proposals of the Chicago Board Options Exchange and Philadelphia Stock Exchange (PHLX) to permit orders to be directed to options market makers. Terms of the proposals; Objection of the...

  • FUTURES & OPTIONS EXCHANGES.  // Futures: News, Analysis & Strategies for Futures, Options & Deri;Jan2006, Vol. 35 Issue 2, p56 

    A list of global futures and stock exchanges is presented. They include the American Stock Exchange, Chicago Board Options Exchange, Boston Options Exchange, International Securities Exchange, and Yokohama Commodity Exchange.


Read the Article


Sorry, but this item is not currently available from your library.

Try another library?
Sign out of this library

Other Topics