If you want to add excitement to your life, try fear-surfing in the Strait of Hormuz.
It’s risky, but you’ll never be within direct shooting range of Iranian drones or military patrols. You won’t even need a surfboard.
If you have a brokerage account that is approved for options, and enough money to buy the United States Oil exchange-traded fund (ticker: USO), you can fear-surf atop the elevated implied volatilities of an oil market proxy that has been pumped up by the Iran war, the strait’s closure, and President Donald Trump’s threats to erase Iran’s civilization before he agreed to a two-week cease-fire Tuesday night.
Fear-surfing is an aggressive trading strategy that is intended to generate big returns on securities with high implied volatility created by exogenous events. The strategy entails selling cash-secured put options on impacted securities on the assumption that fears of increased volatility—which drive options prices—are unlikely to quickly decline. (Puts give holders the right to sell an underlying asset at a designated price and time.)
Consider USO, which traded to a new 52-week high after Trump threatened to bomb Iran back to the Stone Age. The ETF’s options have implied volatility levels of more than 100%, compared with about 24% for the Invesco QQQ Trust
ETF and 20% for the SPDR S&P 500 ETF. A 100% implied volatility level implies daily moves of 6.25%.
During the past 52 weeks, USO has ranged from $60.67 to $143.98. So far this year, it is up 100%, at $138.08, compared with a decline of 3.3% for the S&P 500 index, though the ETF was around $123 in after-hours trading Tuesday night.
The elevated volatility level indicates options are extremely expensive to buy. This reinforces our assertion that investors, including market makers and oil traders, have no idea how to price oil to reflect war risks.
In such rare situations, implied volatility rises to unusually high levels. Most seasoned investors sell elevated volatility because it will ultimately crash like a wave hitting the beach.
Everyone’s risk tolerance is different. The risk can be managed by matching strike prices to the price you are willing to buy the associated security. If you’d buy USO at $105, say, sell the $105 put that expires in two weeks or less. It’s that simple.
Let’s be clear: Fear-surfing is the opposite of investing. It is aggressive speculation intended to profit from chaos, perceived mispricing, and two critical assumptions:
• Whatever happens next in Iran is unlikely to lower oil prices quickly.
• The oil-shipping industry likely faces months of delays before it returns to normal, and who knows what happens if companies refuse to expose their ships to the Strait of Hormuz, regardless of who controls one of the energy market’s most important routes?
We generally suggest a “stocks first, options second” approach. This reflects our belief that few people can successfully trade options for the sake of trading options, but most everyone can use options to better buy or sell stocks.
We are veering from our usual approach because USO’s extreme premiums seem unlikely to decline soon—which makes selling the puts quite attractive. Not only do you make money selling puts, but buying oil lower isn’t so bad either.
Another reason: Dealers increase implied volatility more than is merited to provide themselves with a margin of safety for having to make a market amid murky conditions. Anyone who buys options is likely to struggle because the underlying security would have to move an extraordinary percentage for them to make money buying the calls or puts.
Aggressive moves can happen, of course. To manage that risk, focus on options that expire in under two weeks. This limits event risk and harnesses time decay, the term for how options lose value each day closer to expiration.
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