How my collars are doing

[ChpBstrd]

I own a lot of shares of QQQ, which I hedge by (1) selling a call option, and (2) buying a put option. This setup is known as a collar strategy, and I encourage you to use the link to learn more. With a collar, you give up the potential for some upside when you sell the call, but you receive cash for it. You deploy that cash into buying a put option to provide absolute downside protection.

One of my collar positions in QQQ looks something like this:

1100 shares QQQ
-11 call options at 569.78 strike price, expiring 6/20/2025
+11 put options at 409.78 strike price, expiring 6/20/2025

I want to illustrate how the strategy works by showing you what happened today: QQQ fell from its Friday 1/24 closing price of $529.63 to close at $514.21 on Monday 1/27, a $-15.42 per share or -2.91% loss.

So my 1100 shares of QQQ lost (1100 * -15.42=) $-16,962

However, my options are both geared opposite the stock.

The negative 11 calls I owe lose value when the stock loses value, because the right to buy 1100 shares of QQQ for $569.78 between now and 6/25 becomes less appealing as it becomes more likely that QQQ will stay below that value. If that happens, you'd be better off buying QQQ for cheaper in the open market. That is to say, the call option would be worthless.

The positive 11 puts I own gain value when the stock loses value, because the right to sell 1100 shares of QQQ for $409.78 becomes more valuable as the price of QQQ falls toward that price. If QQQ keeps falling, I might exercise those puts to force somebody else to buy my shares for $409.78 after their market value has fallen to, let's say, $400.

However, this is all probabilistic. The options don't move $1 opposite every $1 move in the stock. Instead their movement is affected by several factors (the options "greeks").

So here was the change in value of my short calls today: $+4,378.00

And here was the change in value of my long puts today:$+1,105.50

Combine these with my $-16,962 loss on the shares and it can be observed that my total position loss was reduced to $-11,478.50.

Thus, I only experienced 67.7% of the loss an unhedged investor would have experienced. This is equivalent volatility to owning a much more conservative portfolio that is 67.7% stock and 32.3% in cash.

The difference is, of course, that those options will expire on 6/20/2025, and if QQQ is somewhere between $409.78 and $569.78 I will receive the exact same outcome as a person who invested 100% in QQQ despite enjoying much lower volatility. If QQQ falls below $409.78, I'll get $409.78 per share because I can exercise my put option and force someone else to buy my shares for that amount (or sell the options for the equivalent). If QQQ zooms above $569.78, I'll miss out on appreciation above that amount because my counterparty will execute the call I sold them, and buy my shares for less than that future market price.

Thus, this little portfolio now (on Monday) has ((514.74-409.78)/514.74 =) -20.4% possible downside between now and June 20, 2025. It has ((569.78-514.74)/514.74 =) +10.7% possible upside in the same timeframe.

I traded these options back in June 2024, back when selling the calls was basically enough to pay for buying the puts. Since then, my long put position has lost value while my short call position has gained value. As of now, my options positions are worth approximately:

-11 calls: $-7,381.00
+11 puts: $4,064.50

Thus I'm sitting on a net $-3,316.50 liability right now. That's what it would cost to exit my option positions and only hold QQQ. I'm fine with this. The widening spread between my short calls and long puts represents the appreciation of 1100 shares of QQQ since last June. As long as QQQ stays between my strikes, this net balance will eventually reach zero on 6/20/2025 because of the time decay of options, and both sets of options will expire worthless.

In that scenario - the scenario I'm planning on - I end up with my 1100 shares of QQQ, plus their dividends, just like if I'd never traded options. But I didn't pay hardly anything on net to enter the options positions due to the proceeds from the calls paying for the puts, so I will have basically spent a year insuring a $565,000 portfolio for free.

Or through another lens, if I can only stomach the volatility of a 67.7% stock portfolio, I will get to enjoy the appreciation of a 100% stock portfolio without the heartburn. Or, I made it possible to hold 1100 shares of QQQ for a year instead of only 745 shares plus cash (i.e. 67.7% as many shares). Actually my portfolio is safer than 745 shares plus cash, because the portfolio of unhedged QQQ shares could fall a lot further than my hedged portfolio. If the market crashed and QQQ fell to $300 tomorrow, I'd still have my puts providing an ironclad floor.

Because my asset allocation can be higher, I will enjoy more appreciation in 2024-2025. So the insurance wasn't just free - it unlocked the courage to buy more stocks and hold less cash/bonds.

So yea, I lost the equivalent of a very nice used car today, or a new roof on a reasonably large house. But I'm not that bothered by it because my losses are both capped and being mitigated in real time by my hedges.

[vand]

Good stuff ol Cheap One.

I supposed what I really want to see is a long term chart of a portfolio that is continually employing this tactic vs an unhedged portfolio, and the effect of the collaring over the long term.

[ChpBstrd]

Good stuff ol Cheap One.

I supposed what I really want to see is a long term chart of a portfolio that is continually employing this tactic vs an unhedged portfolio, and the effect of the collaring over the long term.

Yea, the lack of historical price services for options - even now in the year 2025 - strikes me as weird. A simple database of every option's closing price for the past two decades would consume less server space than a single TikTok video, and yet we can't have it. But I digress.

The reason we can't have these data are because options' values can be calculated mathematically from the price data and interest rates prevalent at any given time. So given these two series of data, you could theoretically calculate your own numbers. But what a PITA. If anyone wants a multi-million dollar website idea, here it is: Make it easy to backtest options strategies.

One strategy is to add up how often a lower or upper band is exceeded for any given collar investment policy statement, such as for example "I will enter one-year costless collars on the first trading day of each year with about 20% upside and 15% downside." This is as simple as making a spreadsheet of annual price returns and replacing the market return with your floor or ceiling during the years returns exceeded -15% or +20%. Then you could, in theory, flag the times you mitigated a bear market (e.g. 2022) or missed out on gains (e.g. 2024), plug your actual returns for those years into a compounding formula on a spreadsheet, and generate a hypothetical long-term return from this edited series.

It would be wrong to compare that return to the stock index, because an investor in a collar is in a much lower-risk asset allocation. E.g. my volatility proved to be like a 67/33 stock-bond portfolio, but unlike such a portfolio I have a firm contractual floor on my possible returns.

This method works well for exactly one-year holding periods where you never roll early. But there are solid reasons why you might prefer to lock in portfolio protection for up to 2.5 years using LEAPS options*, reasons you might want to roll out before expiration**, reasons to vary your upside and downside strikes over time***, and reasons to drop everything and go unhedged****.

All these factors add complexity that make backtesting harder but it is possible to build a spreadsheet with sufficient work. That effort is worth it, IMO, because collars offer the unique possibility of mitigating the sort of Sequence of Returns Risk (SORR) events that make withdraw rates above 4% risky. What would it be worth to dodge ten percent of portfolio losses one year sometime during the first ten years of retirement? Or to smooth stock returns to a manageable level of volatility, so that you can be 100% in stocks instead of, say, 60/40?

* - Buying longer-term protection makes sense when you consider the length of most bear markets and the possibility of your options expiring a few months into a 3-year bear for example. You want to avoid having to set up a new collar during a period of high volatility, when puts become generally more expensive than calls. E.g. When I entered the collar described above, VIX was low and I got about 5% more upside than downside, basically for free. That deal might not exist in the middle of a panic.

** - I find that out-of-the-money options tend to be cheapest, and the spread between the price of calls vs. puts the highest, when volatility is low. Thus, I can get better terms on my costless collars when VIX is low, markets are calm, and optimism is high. If I find myself in such an environment with only a few months left till expiration on my collars, I'll roll early. It's as if insurance went on sale from time to time.

*** - You might tighten up your collars in years when valuations are high or economic trouble seems to be lurking (e.g. if in 2021 you could foresee higher rates). So maybe instead of doing 20% upside and 15% downside you choose 15% upside and 10% downside. This would be market timing in a sense, but you are also using collars for the courage to stay in the market, so in another sense it's not.

**** - For example, the vast majority of years when the S&P500 loses about a fifth of its value are followed by big up years like 2009 with its +23.45% price return, or 2023 with its +24.23% price return. Thus if we're already down 20%, why not sell your expensive puts and buy back your cheap short calls for big profits, and go 1:1 gearing with the market for a year or two? The odds are definitely in your favor if you do so, and thanks to the collar you held the previous year, you have a lot more money to ride the wave back up. We don't know the future, but we know the present, and we will know it when we're deep into the next bear market. Thus if our purchasing power has been preserved through hedging, we can deploy cash into the market near the bottom.

[Scandium]

I'm too uneducated to follow this. But just in general; you limit upside and downside (equally). But as the market goes up more then it goes down, wouldn't this loose out on average, over the long term? You're limiting a more frequent occurrence to protect against a less frequent one.

[ChpBstrd]

I'm too uneducated to follow this. But just in general; you limit upside and downside (equally). But as the market goes up more then it goes down, wouldn't this loose out on average, over the long term? You're limiting a more frequent occurrence to protect against a less frequent one.

Descriptions of the collar strategy usually use a symmetrical position where the put costs exactly what the call sells for. So you break even on the initial options trades, and are assumed to have equal upside and downside. This is the simplest way to explain a collar, so it's how collars are explained. Also, most descriptions talk about going out only a few months, if that.

Actual experience can differ, especially when you trade options with distant expiration dates. For example, I traded some of the options described above on 6/13/2024 for the following prices and with the following upside/downside compared to the price of QQQ on that day.

QQQ price on 6/13/24: $476.41 (average of the high and low prices that day)
QQQ Put, 409.78 strike, 6/20/25 expiration: bought for $10.83/share (protection against any loss of <-14%)
QQQ Call, 569.78 strike, 6/20/25 expiration: sold for $10.51/share (ceiling on any gain of >19.6%).

So I did pay 32 cents per share for the pair of options on net, because that's where the prices fell at that time. Had I chosen the next higher put or the next lower call, this probably would have been a credit. The prices rarely line up exactly to the penny. Sill, that amount is tiny in context - 0.067% of the price of QQQ, so I call it negligible. The point is I bought myself 5.6% more upside than my downside protection for practically no cost.

Thus the options market had priced in the probability that QQQ would be higher in 53 weeks, by making calls more expensive than their comparable puts. You might not see this effect on one-week or one-month options, but I definitely see it on options >1 year to expiration. That's another reason I prefer to hedge longer term. It tilts in my favor.

Let's look at today's numbers:

Today's QQQ price: 519.60
6/18/26 call at 574.78 strike (10.62% above price): $37.66/share
6/18/26 put at 469.78 strike (-9.59% below price): $24.14/share

So in this example based on live fresh quotes, with about 17 months duration, you'd receive a $13.56 per share net credit for entering into a collar with about 1% more upside than downside. The net credit is 2.61% of the shares' price, so you might choose these strikes if you were just short of the amount of cash needed to buy a whole 100 share lot. The cash credit would push you over the line from having enough to buy 98 shares to having enough to buy 100.

Or you could choose the 625 strike call, with 20.28% upside, and the 450 put with 13.39% downside. For this setup you'd pay a $-0.37/share debit. This would be most like the trade I executed in June 2024. Slightly better actually because I only got about 5% more upside than downside and this trade is offering 6.89% more upside for a similar net cost. The difference was that my June trade was for 12.25 months and this trade is for closer to 17. Thus the options market has tilted toward the probability of more upside due to the longer timeframe. Portfolio insurance is cheaper when bought in bulk.

----------------------------

This is a simple cash and outcomes based understanding, but at the next level one realizes that delta is doing the bulk of the work, regardless of where your strikes are picked. There are a series of engineering tradeoffs with all the options Greeks that could cause a strike price selection decision to be more or less ideal in various circumstances, but even if you accept too low a ceiling, you probably got paid for it on the front end.

As a fun example exercise of this principle, I plugged in a short call and a long put both at the 520 strike - roughly the price right now. This might seem dumb, because your investment could neither go up or down without hitting the floor or ceiling. Yet this option trade would generate a credit of $26.64, which is about 5.1% of the shares' price. So you could lock in an exactly 5.1% risk-free return, plus QQQ's 0.56% per year dividends, with this 17 month collar, a full percent and a half higher than comparable 1-2 year treasuries.

[ChpBstrd]

So today (as of this moment) was a highly volatile day where the indices fell hard and them climbed almost out of the hole.

$VIX rose 11.38% to 18.3

QQQ ended up falling only -0.54% (as of now at 2:40pm). However, the volatility pushed up the value of my hedges so that position described above lost a lost less than that. Specifically, my 400 shares of QQQ lost $-1124, my put gained $102, and my short call gained $434. So my net loss was only $-588, which was -0.284% of the $206,860 value of the whole position at close on Friday.

So basically, I have a lot less sensitivity to fluctuations in the share price. But look at my position as of this moment. I could sell my position AFTER an unfavorable event is known by myself and the markets and suffer only half the losses because of how the increase in volatility affected my options.

Down days and SORR periods will involve high volatility. If I enter my options positions during low volatility, I've set myself up to receive a boost from volatility when the down markets come. It's as close to a heads-I-win, tails-I-win situation as I've ever seen in investing.

Will this volatility edge wear off tomorrow if volatility falls? Yes, but the effect is there when I need it. If, for example, I was selling a 100 share lot to finance the next 12 months of retirement, I could exit the options positions at the same time and not suffer as much of that day's/month's losses.

[MustacheAndaHalf]

The markets opened with a 1.6% loss on the S&P 500, and then recovered to -0.7%.  The market first responded to tariffs on Mexico, Canada and China.  But negotiations delayed tariffs on Mexico by one month, which caused the partial recovery.

Trump is threatening tariffs on Europe, and on the source of computer chips, Taiwan.  It doesn't look like the volatility is over, yet.

[ChpBstrd]

My various accounts contain a bit more than collars, including bonds, short puts, preferreds, and treasury funds. Yet I've invested the majority in collars on QQQ and IWM. I've made zero contributions to any of my brokerage accounts this year.

After yesterday's dip, my whole portfolio was outperforming 2 out of 4 indices - despite the handful of bonds and stuff. I thought I'd share this graphic because it nicely illustrates the volatility reduction effects of investing in collars, and also how you end up at close to the same outcome as a 100% stock portfolio.

If I let my collars expire in June and December, and the share price is between my two options positions, my outcome will have been the same as someone who simply invested without hedging. For me, the difference comes from being able to stomach a >90% allocation to stocks. That's what's driving my returns. The options have been merely a safety blanket - until the year a crash occurs, at which point they save my early retirement plans.

[VanillaGorilla]

Thanks for this discussion, I've been trying to wrap my head around how these strategies work.

Following the investopedia example on the subject:

Suppose you own 100 shares of stock ABC, bought originally at $80 per share, and the stock is trading at $87 per share.

You buy one put option (100 shares) with a strike price of $77 and a premium of $3.00. You also write (sell) one call option with a strike price of $97 with a premium of $4.50.

When you start the collar strategy in the above scenario, you receive a net credit of $1.50 per share, and $1.50 × 100 = $150.

This is because you sold the call for $1.50 more than you paid for the put, and you pocket that difference for now.

Let's also look at what it would take to break even:

Breakeven = Underlying Cost + Put Cost – Call Premium Received

= $80 + 3.00 - 4.50 = $78.50 in the stock price

Maximum Profit: Let's now calculate the best upside you would see with this strategy:

Maximum Profit for a credit collar = Call Strike - Stock Purchase Price + Net Premium Paid

= 97 - 80 + 1.50 = 18.50 × 100 shares per contract = $1,850

Maximum loss: Lastly, let's look at the worst possible outcome:

Maximum Loss for a credit collar = Put Strike - Stock Purchase Price + Net Premium Collected

= 77 - 80 + 1.50 = -1.5 × 100 shares per contact = -$150

So if the price drops below the put strike price you sell your shares. What are the tax implications thereof? If I sell a million bucks of appreciated stock the tax bill is going to increase my loss tremendously.

And then what? Do you immediately buy the same security and start a new collar? Seems like there's a big human component at risk here - if the market is in free fall, convincing yourself to buy a new position will be challenging.

Practically speaking, how do you choose the duration of your options? How do you choose your strike prices?

What drives the options prices? Do you run the risk of the calls and puts changing dramatically during a panic in the market? How does that play into the profitability of this scheme?

Overall it seems like an overcomplicated strategy during accumulation. During withdrawal it seems more intriguing.

[ChpBstrd]

So if the price drops below the put strike price you sell your shares. What are the tax implications thereof? If I sell a million bucks of appreciated stock the tax bill is going to increase my loss tremendously.

If the share price drops below the put strike price, you could either exercise your put option to sell your shares at the put strike price, or you could sell the put itself, which is now worth about the same as the difference between the strike price and the current price. On expiration day, either choice has the same value.

Selling the put will probably generate a taxable gain if it's in a taxable account. But this gain will only be for that gap between strike price and current share price, minus what you originally paid for the put. So it's not a gain on the entire nut.

In this circumstance where stocks fell, you might be able to offset the capital gain from options by generating a taxable loss selling shares. You'd then buy them back (outside the 30 day wash sale rule, or by switching to a different fund). I don't particularly like the idea of being out of the market for 30 days, but I can get on board with a different ETF. Rotating SPY and QQQ in your various accounts, for example, could accomplish this loss-generation function.

In general, your 3 choices when your put or call options are in-the-money are:
1) let your shares be called or assigned
2) trade out of the option for a loss
3) roll the challenged side of your collar, or the whole collar,  to a different strike or expiration date

And then what? Do you immediately buy the same security and start a new collar? Seems like there's a big human component at risk here - if the market is in free fall, convincing yourself to buy a new position will be challenging.

I've thought long and hard about this "then what?" question after you've won by hedging your stocks. Suppose you set up your collar and shares fall 20%. You can:

• Continue holding the collar: If you consider the collar to be a permanent AA decision, and are only concerned about mitigating SORR events, just hold it through the dip and enjoy the much lower portfolio volatility along the way. At expiration, if the market is below your put strike price, your outcome is the put strike price, which is better than you'd have gotten if unhedged. If the dip is temporary and the market is above your put strike price but below your call, you eventually get the same outcome as if you held unhedged. If markets zoom up until they exceed your call strike price, you get the call strike price as your outcome, whether you let the shares be called away, buy back the call, or roll.
• Name your threshold to go unhedged: For example, your Investment Policy Statement could say something like "Invest the equity portion in XXX ETF using an options collar strategy with approximately XX% downside and XX% upside, plus or minus X%. If the share price of XXX falls more than 20% from its all time high, close the options trade and hold the shares unhedged, until they have recovered to their all time high again." Such a strategy backtests incredibly well because such drops, which only happen every several years on average, are almost always buying opportunities in hindsight. Even if your put strike price has not yet been breached, the value of your long puts is going to be majorly boosted, and the value of your short call decimated. As a pair, these options move opposite your stock. So in a dip you can sell the put and buy back the call for a profit. It also helps that implied volatility jumps during such events, which means you can exit your options at an even more opportunistic price than if things were calm. If the net price originally paid for your put+short call combo was near zero, you'll be exiting the duo for a gain that almost offsets your stock losses. The downside is obviously that you've lost your hedge and will face the full losses if your shares keep falling. Use the profits from the options to pay living expenses through the dip, so that you are not selling shares near the bottom.
• Go unhedged AND double down: An even more aggressive approach is to take the profits from exiting your hedges and use them to buy more shares. The rationale is that the market always recovers from dips, and so you want to hold something countercorrelated with the market on the way down, and then at the bottom switch to something correlated for the ride up. You might choose this approach if you think the bear market will be resolved and on the basis of statistical odds saying that additional drops get more and more rare as the market keeps falling. 

Practically speaking, how do you choose the duration of your options? How do you choose your strike prices?

Duration: As you go further out in duration - ideally over a year - time decay becomes less and less. This means it is always cheaper to insure your portfolio by, for example, buying one put a year out rather than buying a dozen one-month puts. The bulk sales on options are crazy. To see this, look at one month and one year put options on SPY at the same strike price a little below today's price and divide by the number of days. You'll see that portfolio insurance costs a lot less the more of it you buy. Now look at the sort of historical SORR events you are hedging against. They almost always last over a year, and sometimes last several years. Thus, one month of protection is not enough to save your portfolio from a steady slide into bear market territory (for some reason, the examples on websites assume you collar for just a couple of months).

Strike Prices: First, most people who set up a collar would like to select puts and calls that have a similar cost. This way proceeds from selling the call pay for the put (i.e. a "costless collar"). Out of these possible pairs, you decide how much downside risk you can endure/survive. If you choose a tight downside, you'll have to accept selling a call with minimal upside. I.e. that put is going to be expensive, so you'll have to sell a call closer to the money to pay for it. Or you could choose to accept a lot of downside risk to leave lots of upside available. You may also be tempted to set your put strike price close to the current price, and your call strike price very high, but this will require that you spend extra money and have a "costly" collar instead of a "costless" one!

My personal technique is to always buy at least one year of collar coverage - sometimes up to two and a half - because I want to be able to float out an extended episode if I choose to do so, and because I don't want to be forced to trade options during a period of high volatility if I can help it. I select strike prices this far out by throwing a ruler on the long-term trendline, extrapolating that trend a year or two, and setting my put and call strike prices some survivable range around that prediction. I have been aiming for costless collars, but you always have to accept a small debit or credit to get a trade through. And I've been thinking about the leverage one obtains when one puts a bit of money into the trade to buy much more upside than downside.

What drives the options prices? Do you run the risk of the calls and puts changing dramatically during a panic in the market? How does that play into the profitability of this scheme?

The options prices are driven by the usual factors known as Greeks: delta, theta, vega, gamma, rho, and you can get into the details of each factor with online resources. The important thing is that a long put option moves opposite the stock price, and so does a short call option. By combining these things together, you get a position that moves opposite your stock.

The risk of sudden movement (gamma) is muted on longer-duration options positions. Makes sense if you think about it: How does today's -1% movement change the odds of stock XYZ closing above or below the strike price in two years? Probably not by much. But it definitely changes the odds of where it will be next week! So the one year put will change value by a smaller amount than the one week put. Your longer-range options kinda float through share price zig zags and little spikes in volatility. However they definitely still move, cushioning the blow of sudden down markets as illustrated above.

Overall it seems like an overcomplicated strategy during accumulation. During withdrawal it seems more intriguing.

SORR is typically thought of as an after-retirement problem, but I think it's an issue in accumulation too. For example, if you have $1M invested in stocks, and you are saving $30k per year and the market declines 20%, then that's six years and nine months worth of savings that just evaporated. And a 20% downturn like this can be expected to occur every 4 years, based on historical experience! As one gets close, it would be nice to be able to predict one's retirement timeframe within a range of a year or two, and to not have those plans cancelled by a routine market correction.

Most people use a bond tent or conservative AA to avoid SORR before retirement and in the critical few years after retirement, but that can reduce returns. I like the ability to pick my possible range of returns and invest aggressively without worrying about a routine correction adding years to my working career.

[AJDZee]

Good stuff ol Cheap One.

OMG ALLLLL these years I've read ChpBstrd's username as "Chip Bastard" and just thought, 'wow this bastard must really like chips'

ChpB thank you for your post, I've just started options this last week when I figured a trade war was going to spark some volatility, I bought puts on Tesla last week. (it has been a very good introduction to options! :) ) I'm considering juts doing covered calls going forward, but looking forward to learning more strategies.

[ChpBstrd]

Good stuff ol Cheap One.

OMG ALLLLL these years I've read ChpBstrd's username as "Chip Bastard" and just thought, 'wow this bastard must really like chips'

ChpB thank you for your post, I've just started options this last week when I figured a trade war was going to spark some volatility, I bought puts on Tesla last week. (it has been a very good introduction to options! :) ) I'm considering juts doing covered calls going forward, but looking forward to learning more strategies.

Ha!

Good luck with those puts. Just please understand that approximately 100% of people starting with options skip the advice about doing many hours of reading before their first trade, skip the advice about spending several months paper trading, and go on to lose a four or five figure amount because they didn't understand the leverage inherent in these cheap contracts that assign liability for the upside or downside of hundreds of shares at a time.

That's how I did it anyway, and spent thousands of dollars in tuition (tens of thousands? can't remember) at the School of Hard Knocks before figuring out what I could have learned for free. The people on Wall Street Bets asking how they lost their life savings, despite weeks of "experience", are what gives derivatives a bad reputation as weapons of mass financial destruction for degenerate gamblers to destroy themselves with.

With your TSLA puts, do you have a plan to avoid the risk of gamma squeeze and have you bought enough duration to keep delta manageable? If you can't answer these questions off the top of your head, you need to exit the position and go back to the advice, or else something unexpected will happen. With one-sided bets like these, it's possible to both be correct about the stock and to lose money. It's actually more complicated than collars, even though it looks simpler. Maybe you've already done the homework, and if so, again, good luck!

[AJDZee]

Oh I've already sold the contract, I made what I wanted to make out of it.
But yes thank you for the word of warning, I plan to educate myself more on it for sure. I'm not as risk-seeking as I come off, this was a one-off trade.
I've never even been on wall street bets. :)

[Financial.Velociraptor]

I'm considering juts doing covered calls going forward, but looking forward to learning more strategies.

CC are the best place to start which is why they are allowed with the very lowest level of trading permissions.  For a beginner, I recommend starting with asking yourself, "how does this trade REDUCE risk?"  If you can't confidently answer that, don't make the trade.  CC reduces your risk by effectively immediately lowering your cost basis in the trade (but not for tax purposes!)  @ChpBstrd using collars lowers risk even further.

[ChpBstrd]

So how is my collar portfolio doing now that the market is falling?

Back on Feb. 4 my portfolio of mostly collars on QQQ and IWM was somewhat lagging the indices. My short calls and long puts were losing value on the way up. Since then, the market did an abrupt turnaround.

Since "the top" on February 19th, QQQ has fallen -7.6% and IWM has fallen -9.6%. As you might have predicted, my portfolio didn't do nearly this bad, because of my options hedges. I'm down -6.75% although this is largely due to some large gambles I made on Reddit stock, which lost -21.9% in the past 3 weeks, and accounted for over -2% of my total loss. So I would have been down about -4.75% on a portfolio of only collars - about half the drop.

As the four-month chart below illustrates, I am ahead of all the major indices since December 4th, although cash would have been ahead of me!

[MustacheAndaHalf]

If the market falls further, will your collars absorb the entire loss?  Meaning, will the protective benefit be even stronger going forward?

(I assume the collars were not "at the money" when the market dropped, so some of the drop wasn't protected against by the collar.  But now, with collars in the money (?), they provide more protection)

[ChpBstrd]

If the market falls further, will your collars absorb the entire loss?  Meaning, will the protective benefit be even stronger going forward?

(I assume the collars were not "at the money" when the market dropped, so some of the drop wasn't protected against by the collar.  But now, with collars in the money (?), they provide more protection)

If the market falls further, my options will eventually go from offsetting some of the damage to arresting the fall of my portfolio completely. Right now, my puts are far out-of-the-money and not very sensitive to changes in the market price of the shares. But as the share price falls down toward their strike price, the puts become increasingly more sensitive to changes in the share price. That is to say, their delta becomes a larger negative number.

This makes sense as you think about each down-price day in the stock price increasing the probability that the put will be worth something on expiration day. Right now, it's unlikely the put will expire with a value any greater than zero, but if the market fell another 5% or 10% it would become a lot more likely.

This increase in sensitivity is a steady process as the underlying stock falls. Today, my QQQ long puts increase in value about ten cents for every one dollar fall in the shares. But if shares fell closer to the puts' strike price, they'd increase about 30 cents for every one dollar fall in the shares.

If the puts were in-the-money on expiration day, they'd move almost dollar for dollar opposite the shares. In that scenario, the sum of the value of my put plus my shares could never fall below the strike price of the puts.

At the moment of expiration, with hypothetical shares at $100, a put with a strike price of $101 must end up worth $1, the $102 strike must be worth $2, and the $103 strike must be worth $3. Yet the $100, $99, and $98 strikes must be worth zero. The method by which the market adjusts the value of options from a wide spread of prices one year out to this particular pricing outcome on expiration day is mathematically determined on a moment to moment basis.

Of course, other factors also affect options prices. Right now, with the VIX at 24 and implied volatility high, my QQQ options I traded last June are actually showing a net gain at the same time as my QQQ shares bought at the same time have a gain. My 3 QQQ short calls expiring 6/20/25 have a $+2,482 gain since last June. My 3 QQQ long puts expiring 6/20/25 have a $-1,925 loss. My 300 shares of QQQ in this particular position have a gain of $+9,946.

My put is being propped up by higher investor demand for protection during volatile times, despite the fact that the underlying stock has risen since I bought it and despite the call being closer to being ITM than the put!

Anyway, I pasted the technical description of delta below in case my narrative doesn't make as much sense.

How Does Options Delta Change Over Time?
The effect of time on delta depends on an option’s ‘moneyness’.

In the money

All other things being equal, long dated in the money options have a lower delta than shorter dated ones.
In the money options have both intrinsic (stock price less exercise price) and extrinsic value.
As time progresses the extrinsic reduces (due to theta) and the intrinsic value (which moves in line with stock price) becomes more dominant. And so the option moves more in line with the stock, and hence its delta rises towards 1 over time.

Out of the money

All other things being equal, short dated OTM/ATM options have a lower delta than longer dated ones.
A short dated out of the money option (especially one which is significantly OTM) is unlikely to expire in the money, a fact that is unlikely to change with a 1c change in price. Hence its delta is low.
Longer dated OTM (Out Of The Money) options are more likely to expire in the money – there is a longer time for the option to move ITM (In The Money) – and hence their value do move with stock price. Hence their delta is higher.

[ChpBstrd]

As noted above, I'm in a fun situation where in some of my collars I'm sitting on both 9-month stock gains and also net gains on my options positions. Call it double-profit!

Example collar position initiated in late June 2024:

QQQ 300 shares: $+8,989 gain (+6.46%)
QQQ -3 calls: $+2,564 gain
QQQ +3 puts: $-1,818 loss

Net: $+9,735 gain (+6.99%)

I owe this good fortune to high implied volatility. Markets are scared. The CNN Fear and Greed index is at 19, signaling "extreme fear". The VIX is at 23.75, signifying that out-of-the-money options are expensive relative to in-the-money options, because something has made investors highly uncertain about where stock prices will be in the future.

This is exactly why you enter options hedges during periods of low volatility: so that you can exit them if needed during periods of high volatility. The sort of market corrections you are hedging against will come with high volatility and put-call skew, and so you want that tailwind supporting you. Low volatility times also allow one to trade more downside protection for less upside limits. IIRC, last June I obtained 5% more upside than downside when establishing this position. Today, however, the deals would not be as good.
----------------------------------------
However, I am now at a dilemma. My 6/20/25 options are approaching a mere 3 months till expiration. The plan is to find a low-volatility day during the last few months of option protection to roll my positions out another year or more, ratcheting in a higher downside and a higher upside. I would prefer my options to not expire at the beginning of a bear market, leaving me without protection when it matters, or during a high volatility time, forcing me to roll on disadvantageous terms. My policy statement says to drop the hedges if shares fall at least 20% from their all time high.

Now we have a possible correction brewing, in response to tariff policy, with QQQ down 6.3% in 3 weeks. If I decided the risk was overblown, I'd be tempted to drop my hedges now for a profit and ride the market zig zag back up unhedged. Then when that low-VIX day arrived, I'd set up a new collar.   

However, I cannot be sure the risk is overblown. The damage to economic activity is hard to estimate, but the Yale "budget lab" modeled the reduction as:

• The price level rises by 1.0-1.2%, the equivalent of an average per household consumer loss of $1,600–2,000 in 2024$.
• Real GDP growth is 0.6 lower in 2025. In the long-run, the US economy is persistently 0.3-0.4% smaller, the equivalent of $80-110 billion annually in 2024$.

This probably only accounts for the tariffs, not the multiplier effect of firing about 300k government employees, not the possibility that consumers pulled ahead this year's purchases, not the effect on consumer sentiment, not the effect on Fed policy, and not the potential effect on the value of the USD. Essentially, the tariffs are likely to be a counter-stimulus package comparable in scale to the stimulus packages of 2020 or 2021. Will that be enough to stop the US economic train? Unknown.

Of course, Trump being Trump, we cannot assume consistency of these tariff policies over the next 4 years. With "a deal" he might unravel his #1 policy priority, especially if a stock market correction scares him as happened in 2018. In that scenario, which has already happened before, it's off to the races again.

Given the uncertainties, I've decided to wait for a low-VIX day to occur between now and June, passing up the opportunity to exploit today's relatively high volatility pricing. Unless my -20% threshold is breached, I'll stay hedged. If VIX does not fall below 15 or 16 between now and June, and shares do not fall >20%, I will eat the worse terms in order to stay hedged. This is to say, I'll stick with my original IPS.   

Some of my collars don't expire until December 2025, so I'll be looking to roll them in about August.

[ChpBstrd]

As expiration approaches on my June 20 calls and puts, they are both well out-of-the-money and becoming less sensitive to price changes. That is, their deltas are decreasing.

My QQQ short calls with a 6/20/2025 expiration and 569.78 strike, for example, only have a delta of 0.0147, and have decayed down to 21 cents per share.

This means they are becoming less effective as shock absorbers. I.e. the most I can gain from these short calls is 21 cents per share, when their value goes to zero. That's a problem, because if the current correction deepens, I'd have to rely solely on my long puts to arrest the decline. Yet my corresponding long puts are also declining in delta because they are well out of the money (OTM). The net result is that while I still have a firm ceiling and a firm floor, my options are not doing as much as I'd like to offset changes in stock prices.

Additionally, when my long put is worth $5.86/share and my short call is worth $0.21/share, then I am losing money to time decay, because the put has a lot more time value to lose than the short call. The short call is showing a fat profit, but has nowhere further to run.

I should have realized my error earlier. Proper collar management requires one to keep plenty of duration and delta on one's options. Otherwise, you end up with a loss of traction as the delta declines for far-OTM options. I should have rolled in January, when I still had 5 months of duration. Instead, I endured a correction with insufficient delta and lost stock value without as much increase in option value as I'd like. 

So I've kinda backed myself into a corner, with the following possible choices:

1) Fix the error now by rolling my collar to further-out dates. However, the problem is that volatility is high, with the $VIX at 23.5. When volatility settles down, it will be like undertow.

2) Hold out for either a low $VIX or option expiration, whichever happens first, and then swap for further-out options at that time. The problem with this choice is that my hedges are weak in the interim. I still have a firm floor, but it's a long way down (409.78 strike, versus 460.75 current price).

3) Add delta by buying more far-OTM put options. The problem with this choice is that the options are expensive due to high volatility, it requires a cash outlay, the value of such options will drop like a rock if volatility decreases, and it increases my losses due to time decay.

4) Liquidate everything, and attempt to take advantage of the high volatility by selling put options. For example, puts expiring January 16, 2026 at the 460 strike could be sold for about $31.92 per share. That's a 6.9% return on the money at risk in 9.5 months. The dual risks are that the market takes off without me OR that the market falls below my breakeven price. This is arguably the riskiest choice, but it at least has a volatility tailwind.

5) Roll down my short calls, keeping the expiration date the same. This would increase my deltas and also claw back some losses. E.g. Buy to close my 569.78 strike for 21 cents and then sell the 480 strike for about $13.21. This would generate a total credit around $13/share (2.83% of QQQ's current price) while still allowing for up to 4.4% of appreciation by June 20. It would also increase my delta closer to where it needs to be. The combined 7.23% possible return in 2.5 months doesn't sound bad, but rolling down is also a classic way to lock in disappointment. Stocks could rally 10% from here if Q1 earnings make people cheerful, if Trump against stalls on tariffs, or for no reason at all. And there I'll be with my gains severely capped!

So the moral of the story is: Don't ever let your collars get any closer to expiration than 6 months! Got it? I failed to follow my own preaching and of course that's when a correction hits, lol.

[vand]

Appreciate this update, and it highlights the time decay problem with options that imo make them unsuitable for most people. Not only do you have to be right, you have to be right on a deadline, and that is a big ask to get right on anything like a consistent basis, and why I maintain that most people are far better served simply dialing in their asset allocation and holding a mix of complementary assets.

[ChpBstrd]

Appreciate this update, and it highlights the time decay problem with options that imo make them unsuitable for most people. Not only do you have to be right, you have to be right on a deadline, and that is a big ask to get right on anything like a consistent basis, and why I maintain that most people are far better served simply dialing in their asset allocation and holding a mix of complementary assets.

Definitely a learning curve here, because the behavior of options changes from day to day as time to expiration, the underlying's price, interest rates, volatility, etc. are in constant motion, and each has its own independent effect. The error is to treat an option hedge like an asset allocation. It takes some active management on perhaps a quarterly basis. Those unwilling to do the reading or click buttons a couple times per year need not apply.

You are probably correct that excludes "most people", but anyone thinking about FIRE is looking for outcomes very different than most people.

Where I disagree: The point of a collar isn't to guess right, or to get the timing right. The goal is to smooth out the bumps and insure oneself against Sequence of Returns Risk. The idea is you keep your assets collared permanently just like you keep your house insured permanently. When the SORR event arrives at a time and scale you cannot predict, then you mitigate the damage and survive with a WR that might have failed if unhedged.

[vand]

Where I disagree: The point of a collar isn't to guess right, or to get the timing right. The goal is to smooth out the bumps and insure oneself against Sequence of Returns Risk. The idea is you keep your assets collared permanently just like you keep your house insured permanently. When the SORR event arrives at a time and scale you cannot predict, then you mitigate the damage and survive with a WR that might have failed if unhedged.

OK, yes, but insurance isn't free is it?  You pay a premium to insure your home. 

Does the income from selling away the potential upside completely offset the cost of limiting the downside?  How much does commission factor?

[Financial.Velociraptor]

So, do you think it makes theoretical sense to collar a leveraged position?

Say you take something that has been mostly steady and upward for a long time and arguably will at least market perform going forward like BRK-B.  You gain leverage by getting the farthest out LEAP (say jan 2027 expiry) and go deep in the money.  You should be able to get a strike that is close to half the underlying within a few months of a new year coming online.  You'd pay say 5-7% in additional time value.

Now you go six months out to buy a put that is 10-15% out of the money.  Roll quarterly.  You go six WEEKS out and a similar distance out of they money to write a call against the deep in the money Call that anchors the position.  Roll the 6 week call at 5 weeks, going 6 weeks out again (but going without the call during earnings announcements.  You've got maybe 15% of the underlying price of BRK-B in decaying time premium at any given time.  You should be to earn 15% on a leveraged capital outlay over a year making the collar low cost.

You gain about 90% leverage on BRK-B.  Naturally, that cuts both ways, but eff-it.  You are hedged?  If you could have done this since the 60s you'd probably have returned about 35% a year compounded after taxes.  If you can still get 20% on average assuming BRK-B still outperforms but not as much as in the past because size is the enemy of returns and the underlying only averages 15% instead of 20% long term. 

EMH says I 'have' to be missing something here.  Considering going in on a single contract with this just for the education...

[eusebn2]

Yea, the lack of historical price services for options - even now in the year 2025 - strikes me as weird. A simple database of every option's closing price for the past two decades would consume less server space than a single TikTok video, and yet we can't have it. But I digress.

The reason we can't have these data are because options' values can be calculated mathematically from the price data and interest rates prevalent at any given time. So given these two series of data, you could theoretically calculate your own numbers. But what a PITA. If anyone wants a multi-million dollar website idea, here it is: Make it easy to backtest options strategies.

You need a broker who offers a platform for options trader. Tasty Trade offers back testing on options. I also believe you can do this on the thinkorswim platform.

[MustacheAndaHalf]

So, do you think it makes theoretical sense to collar a leveraged position?

Say you take something that has been mostly steady and upward for a long time and arguably will at least market perform going forward like BRK-B.  You gain leverage by getting the farthest out LEAP (say jan 2027 expiry) and go deep in the money.  You should be able to get a strike that is close to half the underlying within a few months of a new year coming online.  You'd pay say 5-7% in additional time value.

Now you go six months out to buy a put that is 10-15% out of the money.  Roll quarterly.  You go six WEEKS out and a similar distance out of they money to write a call against the deep in the money Call that anchors the position.  Roll the 6 week call at 5 weeks, going 6 weeks out again (but going without the call during earnings announcements.  You've got maybe 15% of the underlying price of BRK-B in decaying time premium at any given time.  You should be to earn 15% on a leveraged capital outlay over a year making the collar low cost.

You gain about 90% leverage on BRK-B.  Naturally, that cuts both ways, but eff-it.  You are hedged?  If you could have done this since the 60s you'd probably have returned about 35% a year compounded after taxes.  If you can still get 20% on average assuming BRK-B still outperforms but not as much as in the past because size is the enemy of returns and the underlying only averages 15% instead of 20% long term. 

Instead of buying BRK-B shares, you buy $270 strike BRK-B options with Dec 2026 expiration (much cheaper than Jan 2027, only 1% time value cost).  Cost of those options is $265/sh roughly.

You pay $5/sh for put options at $450 (-15.6%), which fall as BRK-B rises, canceling out the first $5 of gains.
You pay $8.55/sh for put options at $480 (-10%), canceling out the first $8.55 of gains.

You mention selling call options every 6 weeks, so maybe you're assuming that is significant money.  But right now, $610 strike calls expiring May 16 sell for $0.27/share.  Berkshire has averaged +14%/year for the past 10 years, call that +3.33%/quarter.  Let me simulate +3.33% gain with options 1 week from expiration: April 11 calls at $590 strike, which are $0.02/share, or a simulated $0.25/share profit of 0.047%.  Is this worth it?

[Financial.Velociraptor]

So, do you think it makes theoretical sense to collar a leveraged position?

Say you take something that has been mostly steady and upward for a long time and arguably will at least market perform going forward like BRK-B.  You gain leverage by getting the farthest out LEAP (say jan 2027 expiry) and go deep in the money.  You should be able to get a strike that is close to half the underlying within a few months of a new year coming online.  You'd pay say 5-7% in additional time value.

Now you go six months out to buy a put that is 10-15% out of the money.  Roll quarterly.  You go six WEEKS out and a similar distance out of they money to write a call against the deep in the money Call that anchors the position.  Roll the 6 week call at 5 weeks, going 6 weeks out again (but going without the call during earnings announcements.  You've got maybe 15% of the underlying price of BRK-B in decaying time premium at any given time.  You should be to earn 15% on a leveraged capital outlay over a year making the collar low cost.

You gain about 90% leverage on BRK-B.  Naturally, that cuts both ways, but eff-it.  You are hedged?  If you could have done this since the 60s you'd probably have returned about 35% a year compounded after taxes.  If you can still get 20% on average assuming BRK-B still outperforms but not as much as in the past because size is the enemy of returns and the underlying only averages 15% instead of 20% long term. 

Instead of buying BRK-B shares, you buy $270 strike BRK-B options with Dec 2026 expiration (much cheaper than Jan 2027, only 1% time value cost).  Cost of those options is $265/sh roughly.

You pay $5/sh for put options at $450 (-15.6%), which fall as BRK-B rises, canceling out the first $5 of gains.
You pay $8.55/sh for put options at $480 (-10%), canceling out the first $8.55 of gains.

You mention selling call options every 6 weeks, so maybe you're assuming that is significant money.  But right now, $610 strike calls expiring May 16 sell for $0.27/share.  Berkshire has averaged +14%/year for the past 10 years, call that +3.33%/quarter.  Let me simulate +3.33% gain with options 1 week from expiration: April 11 calls at $590 strike, which are $0.02/share, or a simulated $0.25/share profit of 0.047%.  Is this worth it?

What you say makes sense.  The yield on the short calls would small (but leveraged) and perhaps not worth the hassle.  I think there was some miscommunication on my part.  I intended to buy a deep in the  money call rather than shares as you noted.  Your point about going to the next January instead of as far out as possible is well taken.

My idea here is maybe better described as starting with a DIAGONAL CALL.  A long dated deep in the money call, and shorter dated modestly out of the money calls (rolled repeatedly) sold to recover the time value plus a tiny bit of leveraged profit.  Since the short duration calls lose their time value faster than the long dated one, you play both ends against the middle.  The DITMC would turn what would yield maybe 2-3% a year into 4-5% a year.  This "profit" would be used to finance a slightly out of the money long dated long put as a hedge.  The Long call and the Long put would be rolled every quarter, recovering some of the time value while hopefully rolling UP and OUT.  If you have to roll 'down' you recover some of what was long on the long call from the long put. 

Net would be (???) across the full cycle of rolling everything, a low cost or maybe even net credit "hedged diagonal call", thus yielding both protection against 30%+ market crashes and leveraged returns on the underlying.  This could be a scenario that wins big if the underlying is up, eeks out something close to inflation if underlying is flat, and loses half as much in a downturn (you are still leveraged to downside despite the hedge).  Does this make any kind of sense? 

[ChpBstrd]

Where I disagree: The point of a collar isn't to guess right, or to get the timing right. The goal is to smooth out the bumps and insure oneself against Sequence of Returns Risk. The idea is you keep your assets collared permanently just like you keep your house insured permanently. When the SORR event arrives at a time and scale you cannot predict, then you mitigate the damage and survive with a WR that might have failed if unhedged.

OK, yes, but insurance isn't free is it?  You pay a premium to insure your home. 

Does the income from selling away the potential upside completely offset the cost of limiting the downside?  How much does commission factor?

Yes, actually my insurance was free. The revenue from my call offset the cost of my put. Long duration calls are more expensive than their corresponding puts, because markets usually rise. Commission was maybe $15 to hedge a six-figure amount of value.

[ChpBstrd]

You gain leverage by getting the farthest out LEAP (say jan 2027 expiry) and go deep in the money.  You should be able to get a strike that is close to half the underlying within a few months of a new year coming online.  You'd pay say 5-7% in additional time value.

Now you go six months out to buy a put that is 10-15% out of the money.  Roll quarterly.  You go six WEEKS out and a similar distance out of they money to write a call against the deep in the money Call that anchors the position. 

I like your thinking, but I'm not sure the leverage / margin works out. Let's pretend the stock sells for $100:

-Long LEAP call at $50 strike: costs maybe $54, zero effect on margin.
-Long 6 month put at $90: costs maybe $4, zero effect on margin.

At this point we've spent $58 per share on options to control a stock that costs $100. Our leverage is 100/58 = 172% if we stop here.

-Short 6 week call at $50 strike: earns maybe $53, creates a calendar spread with the long call bought earlier.

At this point, we've spent a net $5 to set up a calendar spread that is hedged on the downside. Theta accrues from the short call, but is paid right back out on the long put. The P&L graph would behave like a synthetic short or long put tomorrow, but like a calendar spread a few weeks from now. At some point in between it looks like a bearish vertical!

Margin requirements are unclear. Your broker will absolutely require something, but it appears this is usually governed by a complex equation and/or portfolio margin. I.e. if the stock goes to the moon, your 6 week short call might gain value more quickly than your long LEAP call. You'll have to model this in paper trading.

But keep in mind the following:

if the short option nears expiration while the long option retains significant time value, margin requirements may increase as the hedge weakens. Traders must monitor these shifts to avoid unexpected margin calls that could force premature liquidation at unfavorable prices.

https://accountinginsights.org/what-are-calendar-spread-options-and-how-do-they-work/

Since I've determined this overall position will transform over time from behaving like a long put to behaving like a calendar, you can expect margin to recalculate in some hard-to anticipate way.

[ChpBstrd]

Net would be (???) across the full cycle of rolling everything, a low cost or maybe even net credit "hedged diagonal call", thus yielding both protection against 30%+ market crashes and leveraged returns on the underlying.  This could be a scenario that wins big if the underlying is up, eeks out something close to inflation if underlying is flat, and loses half as much in a downturn (you are still leveraged to downside despite the hedge).  Does this make any kind of sense?

Probably the simpler way to have more upside than downside would be to just do a diagonal spread. E.g.

Buy a long-dated call
Sell short-dated calls to offset time decay of the long-dated call
Put the rest of your money in low-risk bonds (STIP, SGOV, BIL...) and the amount of cash required to avoid margin.

Today might be a horrible time to enter such a trade because (a) we're in a correction that is likely to bounce back and cause the short call to be ITM, and (b) volatility is high so you'd pay a lot for the long-dated call and watch it lose value when volatility returns to normal.

[Financial.Velociraptor]

Net would be (???) across the full cycle of rolling everything, a low cost or maybe even net credit "hedged diagonal call", thus yielding both protection against 30%+ market crashes and leveraged returns on the underlying.  This could be a scenario that wins big if the underlying is up, eeks out something close to inflation if underlying is flat, and loses half as much in a downturn (you are still leveraged to downside despite the hedge).  Does this make any kind of sense?

Probably the simpler way to have more upside than downside would be to just do a diagonal spread. E.g.

Buy a long-dated call
Sell short-dated calls to offset time decay of the long-dated call
Put the rest of your money in low-risk bonds (STIP, SGOV, BIL...) and the amount of cash required to avoid margin.

Today might be a horrible time to enter such a trade because (a) we're in a correction that is likely to bounce back and cause the short call to be ITM, and (b) volatility is high so you'd pay a lot for the long-dated call and watch it lose value when volatility returns to normal.

This makes a certain amount of sense.  Your leverage cuts both ways but by going 50% in the money, you can get the same exposure for close to half the cash outlay.  The trick is then to deploy the difference somewhere with negative correlation.  Much easier said than done.  The position size wouldn't be big enough for me to hold an individual bond ladder (to carry to maturity) so I'd be looking at a positive but perhaps "low" correlation with international bond funds.  Maybe short duration is the answer.  Or even conventional cash time deposits. 

Today is a bad time to open a leveraged position for sure...

[ChpBstrd]

Today is a bad time to open a leveraged position for sure...

Yea the problem we're illustrating here is why the idea of going long with leveraged options at the bottom of a correction is riskier than it sounds.

[Financial.Velociraptor]

Today is a bad time to open a leveraged position for sure...

Yea the problem we're illustrating here is why the idea of going long with leveraged options at the bottom of a correction is riskier than it sounds.

Oh I KNOW you didn't just call the bottom. j/k.

According my back of napkin arithmetic on SPY, we are only down 12% from the recent high.  Barely a correction.  Could easily fall another third before the leveraged funds are mostly shaken out.

[ChpBstrd]

Not all my stock positions are collared.

I have 100 shares of IWM (small cap ETF) that I'd been selling covered calls against. But given how the correction has broken through resistance and continued claims broke through their ceiling, I've decided I'd rather put a collar on these shares. Here's what I ended up trading:

+1 put, 1/16/2026, 170 strike price (-10.34% below current price), -0.2554 delta, cost: -7.82/share
-1 call, 1/16/2026, 215 strike price (+13.4% above current price), -0.3396 delta, cost: +7.95/share
-------------------------
Net credit: +0.13 per share, or $13 (prices include commission and fees)

So this will be a fun experiment to see what happens when you enter a collar while VIX is almost 30, on a day when IWM fell -6.56%. I was still able to lock in far more upside than downside, while generating a credit.

Again, I'm breaking my own guidelines about selecting expiration dates > 1 year. In this situation, it's because we're in correction, and stocks have a history of rallying hard after episodes like this. Had I gone out another year, to 1/15/2027, this same spread would have generated a credit of +3.68 per share and my delta would have been bigger (read: more effective against decline). I could be persuaded that I'm wrong, but for now I just want a hedge for the next 5-6 months or so. I will probably reposition by August. I would like for my short call to quickly deteriorate so that I don't have to roll at a net cost later this year.

Basically, I'm not sold on the idea that stocks won't rebound after the tariff anxiety is over. History has lots of blips like this one, and usually they resolve within a few quarters.

[ChpBstrd]

My Investment Policy Statement says that I am to close out my collar options, and hold the shares unhedged, if the shares drop 20% or more from their most recent peak. This is the more aggressive way to use collars. The other way is to just always hold the collars no matter what happens.

My IPS also reflects the more dangerous approach, because I might exit my hedges at 20% down only for the market to hit me with another 20% of losses while I'm un-hedged! If that happened, I'd still be better off than someone who wasn't using collars, so I judge it to be the dominant strategy compared to the alternative. Yet the person who hedges with collars and never exits also enjoys benefits, like a certainty of containing losses and lower volatility.

But a case can be made that market drops of -20% or more are usually a long-term buying opportunity, even if one misses the bottom by 5-10%.


So here's where I stand today: I hold collars on 1,300 shares of QQQ and 400 shares of IWM.

QQQ peaked on 2/19/2025 at $540.81. As I write this, it is down to $442.39, a drop of -18.2%. So my IPS has not yet been triggered for QQQ.

IWM peaked on 11/25/2024 at $241.39. It is down to $180.20, a drop of -25.35%. So according to my IPS, I need to exit my hedges on IWM. These include:

IWM 06/30/2025 220.00 P  (+3) gain=$+9,351
IWM 06/30/2025 230.00 C  (-3) gain=$+137 *
IWM 01/16/2026 170.00 P  (+1) gain=$+447
IWM 01/16/2026 215.00 C  (-1) gain=$+144

*(note that I rolled this down for a $200 gain a week or so ago from its originally much higher strike price, a good move in hindsight)

I'm still down about $7k on the overall stock+options position, so my collar didn't completely save me from loss. It was never intended to be completely delta-neutral, because that would prevent the possibility of gains. But look what it did! My loss without the options would have been much worse.

My net from exiting these trades (buying back the calls, and selling the puts) was $12,991 (may not agree with above tally due to volatile market and my limit orders being in the middle rather than the ask or bid). Recall that I entered these trades for almost no net outlay, several months ago.

The question is, what am I going to do with the almost $13k in cash? I'll probably just drop it in SGOV or BIL or gold for now. If the market drops even further, like another 15-20%, I'll look into maybe using these funds to buy LEAPS call options to increase my exposure to the market on its way back up.

I'll also keep an eye on QQQ to see if it drops below -20%, which would be a price of $432.65. It technically violated that threshold earlier when I wasn't watching, but it doesn't count if I'm not present to close my hedges! If I exited now, it would not be down at least 20%.

I'm in no hurry, because at this point it's equally likely to rise or fall the next 1%. Yes, I could set a conditional order, but this isn't a precise process and I'm not a financial advisor following instructions from someone else. If it happens tomorrow that's OK and if today was the bottom that's OK too.

If financial institutions start getting into trouble, we could get an even bigger dip. That would paradoxically be good, because as with IWM I'd miss the stock falling through my threshold and exit maybe 25% or 30% down instead of only 20% down. Then I'd exit my options for bigger net gains and ride the market back up unhedged from an even lower starting point.

I remain very excited about the strength of this collar strategy to mitigate Sequence of Returns Risk and lock in a positive bias in the range of one's portfolio returns. I just avoided the majority of damage from a sudden bear market in IWM.

So, how are my collars doing? Exactly as I'd hoped.

[EscapeVelocity2020]

What have you ended up doing on your QQQ collars?  You left off wanting to roll them out once volatility died down. 

[ChpBstrd]

What have you ended up doing on your QQQ collars?  You left off wanting to roll them out once volatility died down.

QQQ dipped under my "drop hedges" criteria for a few hours while I was not paying attention. By the time I noticed, it was 1% to 2% higher than my threshold for exit. So I did nothing because my threshold was not currently in effect at the time I could take action.

I did, however, exit my hedges on a smaller IWM position. I've since ridden IWM up unhedged. My IPS specifies to hold it unhedged until the next ATH, but I might re-collar early if VIX gets down to 15 or so.

In hindsight, I'm currently wishing I'd gone ahead and exited my QQQ hedges back when VIX was over 45. Put options were crazy expensive at the time. A decision to go for it anyway might have been worth a few thousand dollars as of now. But then again I might get another chance next week, so no need to do anything out of desperation.

[MustacheAndaHalf]

I suppose the discussion of collars from the "inflation" thread is better continued here.

... That's 25% upside versus 11.5% upside!
... In normal or low-volatility conditions, a call with a strike 20% higher than the current price is worth more than a put with a strike 20% lower than current price because historically stocks have had an upward bias.
...

I'm quoting you out of context, my apologies, to focus on something I think is important about the variability of stock returns.  In the 30 years from 1995 - 2024, stock market returns were close to their historical average just twice: +10.7% and +12.0%.

In general, using collars at +11.5%, +20%, and +25% will truncate a lot of significant stock market gains.

At +25%, you'd truncate percentage gains of: 26.2 28.8 31.2 32.3 26.4 28.2 28.7 33.5 38.1 (9 years where +5.3%/year was lost, average)
At +20%, the above plus percentage gains of: 24.9 21.7 20.4 22.6 (13 years with above, +7%/year was lost, average)
And +11.5% truncates those plus: 18.4 12.0 13.5 15.9 (17 years, with above, +13%/year was lost, average)
Gains not truncated: +1.25% +1.89% +5.14% +4.83%
https://finance.yahoo.com/quote/SPY/performance/

With 20% or 25% downside protection, the puts don't mitigate any of the 2022 crash (-18.2%).  And that relies on the flawed assumption puts are bought immediately before a crash.  Buying every 12 months, on average the crash will arrive 6 months later (the earlier and later arrivals average out to 6 months).

In 2021, the S&P 500 gained +28.8%, so 6 months of that annual gain would be +14.4%.  Downside protection of 20% or 25% gets weakened to 34.4% or 39.9% downside protection - that doesn't mitigate any crash in our lifetimes.  Using 1999 gains of 20.4%, that's 10.2% weaker downside protection, or about 30% and 35% downside protection.  The dot-com crash only lost that much over 3 years, and options need to be rolled annually.

In my view, protective puts work less than advertised because of market gains before market drops.  Because market performance is rarely average, the short calls cost significant amounts of performance.  Overall, I view collars as sacrificing too much performance for too little downside protection.  But I may have made a calculation mistake, or not considered rolling options on variable timeframes and conditions.

[ChpBstrd]

@MustacheAndaHalf it also depends on your frame of reference.

If you are a highly conservative investor with a 30% stock, 30% corporate bonds, and 40% treasuries, you do not look at the total performance of the S&P500 and say "look at all the gains I'm missing out on by not having a 100% stock portfolio!" Presumably, you got into that AA because you are not in a place in your life that you could afford a negative outcome large enough to trigger Sequence of Returns Risk. Or maybe you are an insurance company.

If you have a normal-around-here 80/20 AA, you do not look at the performance of Gamestop or Litecoin or a particular futures contract on a commodity and compare your meager results to those explosive gains. This is because you are not even in the market to gamble your portfolio on extremely risky things. You plan to retire on this money. If you gamble poorly you might live poorly, and that's an unacceptable risk for most people to take.

Similarly, a collared portfolio behaves completely differently than a portfolio where the large majority of money is invested in un-hedged shares. You give up some of the upside potential whether you hedge with collars or buy a bunch of bonds, because nothing in the world is free. In many bull markets throughout history, the decision to hedge or diversity would have resulted in a vast underperformance of the stock indices. In many bear markets, it would have saved one's retirement.

Perhaps if valuations weren't so high, and if policymakers weren't quite so dismissive of the warnings from economists, I would prefer an unhedged stock-heavy portfolio. As it is, I personally need a portfolio that will allow me to retire on a borderline risky withdraw rate and be more immune to SORR than a typical stock/bond portfolio.

So the relevant question is something about the safe withdraw rate* not a comparison to a 100% stock portfolio.

Options don't have price histories that are easy to pull like stock and bond indices, so nobody analyzes these and you can't model collars in portfoliocharts, the ERN spreadsheet, or anything else I've found. What we do know is that the 4% rule was only ever violated in the late 1920s and late 1960s when enormous stock market losses were looming in the near future. The late 1990s are looking to be a strong candidate too, but it hasn't been 30 years for these sequences just yet. The entire risk of retiring on a 4% WR depends on whether or not a SORR-scale event happens in roughly the first 10 years of your retirement, or if instead your portfolio grows so fast (while your spending stays under control) it outgrows the risk of a typical SORR event.

A collar essentially trades the top upside froth for some chunk of the downside. The money you miss out on in bull markets is recovered in bear markets. So one has essentially shifted returns around in time: this year I make $1,000 by hedging and next year I'll miss out on $1,000 by hedging. In the long run and if I'm consistent, I'm getting close to the returns of an unhedged all-stock portfolio. Otherwise the options markets would not be efficient**.

When I make a spreadsheet with the price returns*** of the S&P500, and I write formulas to replace the high values with my maximum returns, and formulas to replace the low values with my minimum returns, it looks pretty good to me from a SORR avoidance perspective. Especially after adding back cumulative dividends.

*One might argue the Sharpe ratio is also a good goal to evaluate collars against. I suspect a financial manager who could optimize for Sharpe could attract a lot of funds from educated investors and institutions. A collar strategy usually achieves the stock market's outcome, but at some fraction of the volatility.
**I do not generally collar investments with relatively illiquid options markets as indicated by bid-ask spreads bigger than a nickel, because they cannot be assumed to be efficient.
***Not total returns, because one still collects dividends with a collar.

[EscapeVelocity2020]

What have you ended up doing on your QQQ collars?  You left off wanting to roll them out once volatility died down.

QQQ dipped under my "drop hedges" criteria for a few hours while I was not paying attention. By the time I noticed, it was 1% to 2% higher than my threshold for exit. So I did nothing because my threshold was not currently in effect at the time I could take action.

I did, however, exit my hedges on a smaller IWM position. I've since ridden IWM up unhedged. My IPS specifies to hold it unhedged until the next ATH, but I might re-collar early if VIX gets down to 15 or so.

In hindsight, I'm currently wishing I'd gone ahead and exited my QQQ hedges back when VIX was over 45. Put options were crazy expensive at the time. A decision to go for it anyway might have been worth a few thousand dollars as of now. But then again I might get another chance next week, so no need to do anything out of desperation.

So no plans to do anything if there is no trigger and the QQQ options are headed toward expiring worthless?  Do you have a VIX target to extend duration on those?

Also interested to see what happens with the IWM decisions.  Doesn't look like VIX will hit 15 this week, what do you do if IWM hits resistance and retraces toward recent lows?

[Financial.Velociraptor]

Have a Q @ChpBstrd .  I think understand the mechanics here (and I'm assuming EMH).

Say the underlying you are writing options on pays a distribution.  Do you effectively give up the distribution as well as the upside?  Seems to me, if you were collaring something with a 5% yield, the cost of the collar would go up by the annualized amount of yield in your duration.  The price should rise as the distribution date draws near, meaning your cost to roll would go up if you were to roll near the x-div date.  If you wait until day after, your stock price theoretically falls by the amount of the distribution. Is this roughly a wash or is it an extra cost of collaring?

A super conservative investor might want to be in SCHD or NOBL rather than SPY/VOO for their main equity allocation.  This would give up some upside for lower volatility.  Collaring could double down on that but is less attractive if you surrender the yield (which is a major component of total yield for the dividend grower etfs).

[MustacheAndaHalf]

@ChpBstrd - I'm not questioning the theory, I'm questioning the numbers, which is why my post focused on those.  Forget the timing, say all options match the calendar year.  Protection below 20% downside isn't worth giving up gains above 20% upside.

In the past 30 years, only two years involved drops greater than 20%: 2002 and 2008, with -21.5% and -36.8%, respectively.  With 20% downside protection, the two years combined leave you with 64% of your portfolio.  Meanwhile, everyone else is down to 49.6% of their original portfolio.  When you divide your assets by theirs, you wind up +29% ahead.

What does this cost?  Giving up performance above 20% for 30 years misses out on +166% worth of gains.  I'd rather have +166% than +29%, so I conclude 20% downside protection isn't worth giving up upside above 20%.

There are other solutions than collars to volatility.  The most popular is buying Berkshire Hathaway stock, if its market cap of $1.1 trillion is any indication.  BRK-B features a beta of 0.80 (versus the market defined as 1.00).  According to Morningstar data, Berkshire Hathaway has beaten the stock market over every time period from 1 month to 15 years.

[Financial.Velociraptor]

@ChpBstrd - I'm not questioning the theory, I'm questioning the numbers, which is why my post focused on those.  Forget the timing, say all options match the calendar year.  Protection below 20% downside isn't worth giving up gains above 20% upside.

In the past 30 years, only two years involved drops greater than 20%: 2002 and 2008, with -21.5% and -36.8%, respectively.  With 20% downside protection, the two years combined leave you with 64% of your portfolio.  Meanwhile, everyone else is down to 49.6% of their original portfolio.  When you divide your assets by theirs, you wind up +29% ahead.

What does this cost?  Giving up performance above 20% for 30 years misses out on +166% worth of gains.  I'd rather have +166% than +29%, so I conclude 20% downside protection isn't worth giving up upside above 20%.

There are other solutions than collars to volatility.  The most popular is buying Berkshire Hathaway stock, if its market cap of $1.1 trillion is any indication.  BRK-B features a beta of 0.80 (versus the market defined as 1.00).  According to Morningstar data, Berkshire Hathaway has beaten the stock market over every time period from 1 month to 15 years.

You have to keep in mind that 20% loss then gain is not linear.

If you start at (to make math easy) 100 and lose 20%, you are at 80.  If you then earn a 20% gain thereafter, you are only back to 96!  That isn't such a big deal but there have been a couple crashes of 50%.  Let's look at 50% decline then gain.

100 -> 50
50 -> 75

You are still down 25% round trip!  That is a drop of half takes a double to break even.  The disconnect gets even worse if you go to a 60 or 70% haircut. 

It thus makes sense that if you give up over 20% to eliminate below 20%, you could end up in a better position at the end.

And that is just the 'math'.  The peace of mind to be able to sleep soundly when others are panic selling is golden.  Maybe the  psychology even lets you rebalance out of bonds into a fire sale when you would have been too uneasy otherwise.

[ChpBstrd]

So no plans to do anything if there is no trigger and the QQQ options are headed toward expiring worthless?  Do you have a VIX target to extend duration on those?

Also interested to see what happens with the IWM decisions.  Doesn't look like VIX will hit 15 this week, what do you do if IWM hits resistance and retraces toward recent lows?

1) I will definitely roll (or close) them sometime in May, regardless of volatility, to cash in the remaining time value on my put. As mentioned above, I should have rolled back in January when I had less than six months remaining, just to avoid the risk of a volatile last few months. Yet it seems volatility mostly affects shorter-duration put/call

I am currently tempted by the January 15, 2027 expiration date, 1.7 years out. I can buy a put at 390 (17.3% below current price) and sell a call at 590 (25.1% above current price) for a net CREDIT of $0.88/share. This pairing would have a delta of -0.49 meaning if the shares went down $1, all things being equal, these options would be expected to go up $0.49. The 25% upside represents a target maximum return of about (25.1/1.72=) 15% per year. Meanwhile my maximum loss would be about (17.3/1.72=) -10% per year averaged across that timeframe.

I'm also tempted by the 565 call (19.8% above current price) and 420 put (10.9% below current price). This pair would have a delta of -0.63 and would result in a CREDIT of about $0.72/share. I think about going for a higher delta every time I see the S&P500 CAPE. This pairing might be the more profitable choice if we have a major bear market in the next 1.7 years, and I exit the collar at some pre-determined low.

Note that I am managing delta and floating out potentially volatile returns over a longer timeframe. This is how I think of it now, rather than expecting to hold until expiration. Maximums at expiration are just convenient mental handles for thinking about risk.

The maximum upside at expiration is not even necessarily true if, like now, I can exit my June puts for about $+2,500, instead of letting them *probably* decay to nothing in a few weeks. I am tempted to do that and just let my short calls (worth about $-3,600 but still profitable) decay to *probably* nothing by June. Seems like the right play for a market pumped up on volatility, but of course I'd be giving up half my delta and gamma - going mostly unhedged.

2) IWM has gone up about 2.5% since I went unhedged on 4/10/25. So far, it appears I caught the bottom on that one. I deployed some of my net proceeds into international funds EWZ (Brazil) and EWU (UK), and have been rewarded there as I watched my IWM shares rise.

Say the underlying you are writing options on pays a distribution.  Do you effectively give up the distribution as well as the upside?  Seems to me, if you were collaring something with a 5% yield, the cost of the collar would go up by the annualized amount of yield in your duration.  The price should rise as the distribution date draws near, meaning your cost to roll would go up if you were to roll near the x-div date.  If you wait until day after, your stock price theoretically falls by the amount of the distribution. Is this roughly a wash or is it an extra cost of collaring?

I am holding the stocks, so I get to keep the dividends. When I mention a X% maximum upside, that does not include dividends. The yield on QQQ is a mere 0.6% per year, which is meaningful but not a major consideration.

You are correct in your hunch that options prices must reflect dividends.

A stock's price is expected to be reduced by the dividend amount on the ex-div date, all things being equal, so calls will be cheaper after that date. If you ever see a weird situation where a high-dividend, low volatility stock has call options that are priced higher with expirations this week than for expirations next week, that's why. Wouldn't it be nice if we could sell covered calls for the full usual premium and collect the dividend too? Unfortunately, somebody thought of that.

Similarly, puts need to be more expensive right before the ex-div date. Otherwise an investor could buy a stock plus a protective put, let the ex-dividend date pass, and sell the stock and put for a loss less than the dividend amount, earning a nearly risk-free return while shifting all the risk to the put seller. I've looked for this play for years and never seen it materialize in a way I'd bother to exploit. I suppose it's easy bot work.   

@ChpBstrd - I'm not questioning the theory, I'm questioning the numbers, which is why my post focused on those.  Forget the timing, say all options match the calendar year.  Protection below 20% downside isn't worth giving up gains above 20% upside.

Hedged-to-unhedged is an apples-to-oranges comparison. But we might compare the two approaches by imagining the ideal  realistic investment profile for an early retiree on a 4% or 5% WR.

You'd want insurance against SORR, so no stock-heavy AAs. But you'd also want returns over time that exceeded your WR plus the rate of inflation - maybe a 8-15% five-year average annual return would do - so no bond-heavy AA's. The ideal compromise would float out the gyrations of the stock market while you are making withdraws, without giving up too much return to eventually outrun both inflation and SORR. Some investors attempt to do this with various mixtures of stock/bond/cash/gold AAs, but this is an imperfect compromise because as we saw in 2022, multiple asset classes can suffer double-digit declines at the same time.

So I'd call the ideal realistic investment something that:

• Can be expected to rise 8-15% per year on average, enabling the portfolio to eventually outrun likely estimates of inflation and SORR
• Cannot possibly go down more than 20% or 25% in any one year, with absolute certainty
• Has low volatility to help with sleeping at night and withdraws
• Has a similar benefit as stocks in terms of eventually adjusting for periods of unexpectedly high inflation
• Offers the possibility to exit and pivot into another AA if circumstances warrant it (so not annuities)
• Is backed by exchange-held collateral, not some business's credit rating (so not junk bonds)

I'm using collars to obtain this particular risk and return profile, not beating an index. It is volatility, not too-low returns, that prevents us from confidently retiring on 5% WRs.   

Also, when we think about past years of high stock market returns, was the CAPE 34 the year before those massive bull market years? Was the rent:price ratio of residential housing 134? Were office vacancies hitting a record 22.6%? Was the government doing all the wrong things?

I think the combination of high valuations and massive policy changes are likely to lead to a bear market at some unpredictable point in the near future, but I also don't want to sit and wait potentially years for the buying opportunity. Instead, I'll ratchet up both my downside and upside year after year until it happens, and then be caught by my safety net when it does.

Finally, I too would be reluctant to trade a 20% cap on upside for a 20% cap on downside, because stocks tend to go up over time and in most years. The odds tilt in my favor as I go further out in duration, as illustrated by the collar trades above that each have several percent more upside potential than downside.

[MustacheAndaHalf]

@ChpBstrd - I'm not questioning the theory, I'm questioning the numbers, which is why my post focused on those.  Forget the timing, say all options match the calendar year.  Protection below 20% downside isn't worth giving up gains above 20% upside.

In the past 30 years, only two years involved drops greater than 20%: 2002 and 2008, with -21.5% and -36.8%, respectively.  With 20% downside protection, the two years combined leave you with 64% of your portfolio.  Meanwhile, everyone else is down to 49.6% of their original portfolio.  When you divide your assets by theirs, you wind up +29% ahead.

What does this cost?  Giving up performance above 20% for 30 years misses out on +166% worth of gains.  I'd rather have +166% than +29%, so I conclude 20% downside protection isn't worth giving up upside above 20%.

There are other solutions than collars to volatility.  The most popular is buying Berkshire Hathaway stock, if its market cap of $1.1 trillion is any indication.  BRK-B features a beta of 0.80 (versus the market defined as 1.00).  According to Morningstar data, Berkshire Hathaway has beaten the stock market over every time period from 1 month to 15 years.

You have to keep in mind that 20% loss then gain is not linear.

If you start at (to make math easy) 100 and lose 20%, you are at 80.  If you then earn a 20% gain thereafter, you are only back to 96!  That isn't such a big deal but there have been a couple crashes of 50%.  Let's look at 50% decline then gain.

100 -> 50
50 -> 75

You are still down 25% round trip!  That is a drop of half takes a double to break even.  The disconnect gets even worse if you go to a 60 or 70% haircut. 

It thus makes sense that if you give up over 20% to eliminate below 20%, you could end up in a better position at the end.

And that is just the 'math'.  The peace of mind to be able to sleep soundly when others are panic selling is golden.  Maybe the  psychology even lets you rebalance out of bonds into a fire sale when you would have been too uneasy otherwise.

Notice when I mentioned losses, I didn't just compare percentages directly.  Instead of comparing -36% to -50% (a 16% gap), I divided the portfolio assets after the drops ($64 vs $49.60) and showed a +29% advantage.  That is why I could directly compare the +166% gains to +29% losses.

In the past 30 years, only two years involved drops greater than 20%: 2002 and 2008, with -21.5% and -36.8%, respectively.  With 20% downside protection, the two years combined leave you with 64% of your portfolio.  Meanwhile, everyone else is down to 49.6% of their original portfolio.  When you divide your assets by theirs, you wind up +29% ahead.

[MustacheAndaHalf]

ChpBstrd - I mentioned a 20% call and 20% put, which you reject.  But you also mention considering a 20% upside call and 11% downside put, so I can calculate the savings of that put.  My interest is the cost of using this strategy, while your interest is the volatility.

In the past 30 years, the market dropped more than 11% in one year 4 times: -11.8% (2001), -21.5% (2002), -36.8% (2008), -18.2% (2022).  Put options with a maximum loss of 11% turn all four years into 11% drops, for a compounded drop of 37.3% leaving a $100 portfolio with $62.74.  Everyone else takes the full drop from each year, for a compounded drop of  64.2% leaving the portfolio with $35.79.  Dividing the assets after drops, hedging provided a +75.3% advantage in assets.  Turning +166% (unhedged extra performance) and +75% (downside savings) into MOIC: 2.66 and 1.75, then dividing: 1.52x  An unhedged strategy was +50% larger than a hedged strategy after the past 30 years.  Another way to think of this: giving up 1.4% per year for limiting downside.

This measurement was over 30 years, where CAPE has ranged from 13 to 44.  It doesn't just cover from June 2024 to now, when CAPE has been over 34.  I recall CAPE and P/E ratio both have about 0.4 correlation with future stock returns.  They show a tendency, but cannot reliably predict the future.

Right now, the only ratio that matter are imports vs exports, which is driving White House decisions on tariff levels.  Last I checked, recession estimates were a coin flip, but have been rising since.  Tariffs are a decent reason to have downside protection right now, more than other market ratios.

[EscapeVelocity2020]

One last question Chp, would you continue to use collars in a 'normal' market where you expect your QQQ to rise (like if we hit a valuation you think is a bottom or if Trump abandons all tariffs)?  It seems like it would be a liability which you have to actively manage until you can exit (or cap the upside), so I don't see the value personally, unless you think it is worth this to have black swan protection at all times.

I've been plenty happy riding QQQ's up and down without a collar (and they are in a Roth), I'm not sure if I'll ever sell so I plan to ride out bear markets, but this has been interesting.

[ChpBstrd]

@MustacheAndaHalf you are correct that there's a risk of missing out on the tops in high-return years and that the aim of anyone using a collar is reducing volatility, not hitting the moon. And recent years have been full of >20% price returns on the S&P500. Four of the last six years have experienced >20% price returns:

2024: 23.31%
2023: 24.23%
2022: -19.44%
2021: 26.89%
2020: 16.26%
2019: 28.88%

We just enjoyed a 6-year average 16.7% annual price return, through the COVID, inflation, and tariff eras. That's well above the long-term average of ~10% and not normal. I can't help but wonder if this recent history affects our perception of the "cost" of hedging.

Plus these returns came at the expense of high valuations becoming extreme valuations, and an increase of the US national debt from $22T to $36T. Had the federal government not resorted to helicopter money, I'm confident a depression would have occurred instead.

ERN made this chart back in 2016, illustrating the correlation of CAPE with 10 year future returns. We are not at the 2016 blue line anymore; CAPE is now 34.23. Since this chart was made, markets added a bunch of dots for 2006-2015, when CAPE was between 15 and 25.


The 2000-2003 bear market and the 2007-2009 financial crisis were both triggered by run-ups in the valuation of assets (dot com stocks and houses/mortgages, specifically) whose prices subsequently collapsed. We have by most metrics exceeded the former highs in those same assets, this time simultaneously. The bond portion of the "everything bubble" popped in 2022, but there's still a ton of liquidity in stocks at triple-digit PE ratios and investment real estate at price/rent ratios over 120%, and liquidity is also overflowing into speculative greater-fool-theory things with no apparent use, like "meme stonks" and crypto. 

Maybe the next six years repeat, but it's worth asking how much further the valuation ratios and national debt can be stretched from here, and what it would take to stretch them.

The top is probably not in, but history suggests volatility lies ahead. The setup of high tech stock valuations, CAPE >30, recent yield curve un-inversion, and the start of a new Republican sweep government promising tariffs looks eerily similar to 2000.

The point is, if you measure by absolute returns, especially against the last few years, you will see a high cost of collaring. If you look at volatility and portfolio survival through times of upheaval while sustaining a growing set of 4-5% withdraws, then collars look like a free lunch of risk reduction.

Neither perception tells the whole story. I am making engineering tradeoffs here to increase the odds of an already-large portfolio survives the sort of SORR events that have derailed retirements before. In different circumstances, I'd pick a different strategy, but this one fits the volatility reduction requirements of my personal situation today.

[ChpBstrd]

One last question Chp, would you continue to use collars in a 'normal' market where you expect your QQQ to rise (like if we hit a valuation you think is a bottom or if Trump abandons all tariffs)?  It seems like it would be a liability which you have to actively manage until you can exit (or cap the upside), so I don't see the value personally, unless you think it is worth this to have black swan protection at all times.

I've been plenty happy riding QQQ's up and down without a collar (and they are in a Roth), I'm not sure if I'll ever sell so I plan to ride out bear markets, but this has been interesting.

Good question. It makes us ask what normal would look like. Perhaps it would feature a PE ratio near 15 or 20?

Instead of identifying features of a normal market that we haven't seen in decades, I simply set my IPS to exit hedges upon a 20% loss from the most recent high. The history of bear markets suggests that the bigger the decline, the more rare that decline is. So 10% declines are much more common than 15% declines, which are much more common than 20% declines, which are much more common than 25% declines and so on.

I picked -20% as a good line in the sand to de-hedge because:

• It is historically probable that if we've already fallen 20%, then the bottom is not far away, so my risk of de-hedging halfway down is relatively low. This is because bigger drops are rarer than smaller drops.
• Even if I drop my protection halfway into what becomes a -40% bear market, for example, I still will have done significantly better than if I'd never hedged. Perfection and market timing are not necessary; I just want to take the edge off the first chunk of the SORR event because I believe doing that is sufficient to bump up my SWR.
• Smaller corrections (e.g. -10%) occur too frequently so my criteria would constantly be triggered, and I might be unhedged at a time when a black swan strikes. This is intended to be an AA so I want to set and forget, rather than managing it monthly. I also want my hedges to have enough bite to seriously mitigate the damage from the next SORR event but also ratchet-lock some paper gains into certainty. So -20% from the peak seems about right.

But of course you don't have to use collars along with an IPS that says when to de-hedge. You can maintain this AA in perpetuity and through the ups and downs by just continuing to roll up (in price) and out (in time). The benefits of doing so would include much lower volatility, more protection against the biggest black swan events, and smoothing out returns so that you are never forced into selling a high number of shares for cheap prices to make regular distributions to your checking account in early retirement. There is a challenge with converting highly appreciated options positions into cash, when each contract covers 100 shares, but there are ways around that issue, like taking a net credit on the next roll.

I do expect QQQ and IWM to rise over time, or else I would be investing elsewhere. I also expect the path to feature some SORR events, given the risks described above. The collar attitude is "it'll both crash and go up over a long period of time." I might have just HODL'd an all-stock portfolio if my timeframe was long enough, but I have retirement withdraws coming up in the next few years and may be retiring on an ill-advised WR, so flattening out the sequence of returns matters.

[MustacheAndaHalf]

ChpBstrd - I couldn't find the graph you describe on ERN's website.  So I can only criticize the problems I see.

First off, there are way too many data points.  If he's taking CAPE ratios from 100 years ago, those aren't relevant today.  The definition of "earnings" has changed with new regulations and auditing practices.  Second, Cyclically Adjusted Price Earnings ratios use 10 years of data, which means adjacent periods have 90% overlap.  These are not independent samples, but heavily overlapping.  So you have data from before major changes, and that data has significant overlaps.

A criticism I read more recently is that CAPE ignores share buybacks.  Instead of issuing dividends to shareholders, who are taxed on that amount, companies can buy back shares to avoid dividend payments - and push up the share price.  The company has the same overall valuation, but fewer shares.  For example, Apple bought back about 35% of its stock over the past 10 years, which pushes its stock price up +54% (*).  This distortion wasn't true decades ago, but is a factor today.

Look at the bottom left corner of the CAPE ratio graph.  CAPE ratios below 12 never had negative returns, which sounds great - but hasn't happened since early 1986.  Equity returns of 0% have happened with CAPE ratios from 8 to 38.  In studies I've seen, correlations are always a smooth, curved line - I've never seen this series of steps to make the graph fit.

Vanguard once had a white paper comparing various measures against future stock returns, which is no longer on their website.  If my memory serves, P/E ratio was 0.40 correlated with future returns, and CAPE ratio was 0.42 correlated.  By itself, CAPE may not be consistent enough to invest against (I recall a few studies trying to do that).

A more convincing study delved into investing in times of low volatility versus high volatility, and generally avoiding high volatility time periods like now.  But I forget the data on that - I'd have to track down the research.  It would also be more convincing to have that theory confirmed in multiple studies.  My allocation to public markets is low but rising, as I plan to buy in May and September of this year, whatever the condition.


(*) A company is worth $10,000 from 100 shares worth $100/share.  If the company buys back 35 shares, the value of the company remains the same, so the stock price has to increase.  $10,000 / 65 shares = $154/share.  If you take the "price earnings" ratio before the buyback, versus afterwards, the price has inflated by +54% owing to share buybacks.  This is a small example of the earlier CAPE ratios without share buybacks, and the current situation, with share buybacks.

[Financial.Velociraptor]

Say the underlying you are writing options on pays a distribution.  Do you effectively give up the distribution as well as the upside?  Seems to me, if you were collaring something with a 5% yield, the cost of the collar would go up by the annualized amount of yield in your duration.  The price should rise as the distribution date draws near, meaning your cost to roll would go up if you were to roll near the x-div date.  If you wait until day after, your stock price theoretically falls by the amount of the distribution. Is this roughly a wash or is it an extra cost of collaring?

I am holding the stocks, so I get to keep the dividends. When I mention a X% maximum upside, that does not include dividends. The yield on QQQ is a mere 0.6% per year, which is meaningful but not a major consideration.

You are correct in your hunch that options prices must reflect dividends.

Ok, so if the hedge has a net debit, because of a high yield, but you hold through x-div, your net yield is theoretically ZERO. You have hedged the movement of the underlying price but surrendered the dividend to your counter parties!  Seems to me collaring BRK-B is much better than collaring SCHD or NOBL.  Maybe this is not important as if you are already taking profits off the table with distributions, and are investing in Aristocrats, you are already more conservative (and lower return) than going naked SPY.  So  you might already have all the 'hedge' you want (and have already paid for it! 

Correct me if I'm wrong, mixing the strategies is counterproductive though.