Silver - it will out perform gold if the bullish trend continues

Silver will out perform gold in the longer term. So, I am overweight on Silver than gold in my precious metals portfolio.

It will be a surprise to many traders that while trend for precious metal is extremely strong, there are contrarian speculators that short the market. These are big institutions consist mainly the big banks. Conspiracy theory surmised that they are government agents used to subdue the price of gold.

Speculations put aside and lets get the facts. The latest report shows that JP Morgan now holds 200 million net short in the COMEX future. This is a 40% of the entire short of COMEX.

In total, there are 500 million ounces or 100,000 contracts in silver shorts at the COMEX. To put this in perspective, this is equal to 75% of annual world production of silver.

Something has to happen. This has been going on for a while. Similar situations happened with Gold and a lot of times, these commercial institutional traders won the game in the past times when gold prices surged.

It could be different this time if:

· The strength of the bull or the demand for gold and silver is so strong that it overwhelms the effort of these institutions to bring the price down. If it happens, it could send gold and silver prices to the moon

· Industrial demand for silver continues to increase. If there is a need for physical delivery, there may be no way to hide under the cover of paper shorts

The situation is creating stress to the system. It is historic. It may even have the remote probability to cause COMEX to shut down. If the bull wins, price for precious metal will explode.

Therefore be careful of ETF and paper futures. If the remote possibility of COMEX having to shut down, it could cause great problems to ETFs and futures.

It is better to stick to physical gold and PM related stocks if you are thinking of riding the bull.

The overall trend is in line with what I expect. It is a healthy correction for precious metals. Precious metals will continue to go up but silver will outperform gold by a ratio of 2:1. It has happened this year and it will happen in 2010. It is more volatile and need more management but more rewards.

Gold seems to have bottom at 1100. If it falls below 1080, another correction to 1040 is possible. I will add short calls. If it falls below 970, it is then a false break out so far. I will add my puts for protection. This is how I profit the profit I had so far since November.

Although I am bullish, anything is possible.

ITM Covered calls - HSY and XOM

I am planning to enter naked puts for Hershey and Exxon with intentions to take ownership of the stocks and convert it to a ITM Covered calls.

Both stocks are good candidates for ITM covered call as they have great fundamentals. They are great company with great managements, good brand recognition, steady and increasing dividends, buying back stocks every year and plenty of cash.

Both stocks have been driven down recently because of pending acquisitions. Hershey is in a bidding war with Kraft for ownership of Cadbury and Exxon is buying XTO for $32 billions dollars in stock. Together with the debts of $10 billion, it will cost XOM a total of $42 billion. This is a very big acquisition.

Exxon is a $360 billion company. It earned nearly $60 billion in CASH last year. It can borrow money cheaply because of its AAA credit rating.

Normally, during an acquisition, the acquirer’s stock will be driven down because they have to pay a premium for the company to be acquired. But we have to examine whether the acquisition makes sense in the longer term. If it does, it is a great time to acquire the stock.

HSY is a long term performer. If you examine HSY performance from 1980 until today, it is better than 15% per year assuming you re-invested the dividends. Since 2005, HSY has repurchased more than $1 billion worth of its stock. It continues to pay and increase dividends. In 2008, the company produced >$500m in cash from operations. It spent $300m on dividends and share buyback plus repaid $138 m in debt. The company continues to pay out $500m per year to shareholders and I expect this to continue.

Hershey has tremendous amount of “economic goodwill”. The company is capital efficient, which means that in an inflationary climate, when chocolate prices go up, more money ends up in the price of shareholders. It has proven over the years, it can produce more without proportional increase in capital investments. During its best year in 2007, the company annual capital budget only increase 9.8% or $189 m,


The business model is similar to Coca-Cola. Between 1989-1999, Coke’s market cap rose nearly 12X. The company raised its dividend consistently each year. We know the success story of Warren Buffet with Coke.

What makes the company so successful? It is simply branding. Coke is the no. 1 brand in the world for soft drink. Hershey is the number one brand for chocolate in US. It will become the number one brand for chocolate if the bid is successful.

Hershey is in a biding war with Kraft to take over Cadbury. It will cost $20billion. But Hershey’s market cap today is only $8billion. So it must take on some huge debt to finance the deal. This is one of the reasons why the stock is trending down.

I am speculating that if Hershey were to take over Cadbury, the money will have to come from someone who knows the business. This person is Warren Buffet.

Warren Buffet is cash rich. He likes this kind of business. He has invested in See’s Candies and Coke. He helped to provide financing for the Mars takeover by Wrigley. Hershey has retained investment banker, Byron Trott for the deal. This is the same guy who did the Mars / Wrigley deal for Buffet.

The deal will probably be announced in 1-2 weeks.

If the deal does not go through, I expect the shares to go up.

If the deal goes through, share may go down temporarily as the market may worry about the debt. In that case, I will double the stake when it stabilized.

Longer term, this is a very good deal for Hershey if it goes through.

As for Exon, it is a very well run company. The stock will find support at 66. It is now very oversold.

But my indicators have not gone bullish yet. Naked put are bullish trade. So I will place the trades when the technicals give me the bullish signal.

Lots of actions on quadruple witching Friday - 12/18

Friday 12/18 was quadruple witching. It was one of the busiest trading days of the year. Volume was very high.

It was a very busy day for me too.

I had a put diagonal for WMT. I closed my WMT bearish put it for a nice return of around 30%. It ended exactly at my short put price of around 52.5. This is the best I can hope for.

I am having a put diagonal for FDX and MON. Both are above water. My palm put calendar is doing extremely well. I started it a few months ago by having a put calendar with the LP at 15. Last two month I closed my SPs as long as the trend is still bearish for the stock. On Friday, I closed my SP for Palm at 10 taking most of the credit. I did not allow the trade to expire. This trade is going to give me a 100 % winner. It is about 95% ROI now.

The key to calendar is not just setting the target for 25% ROI. If the trend is on my direction, there are times I simply close the short option, maintain the long option and continue the trend for a few more months. You can make a lot more money this way. I did it for POT on a Call calendar which also gave me a very healthy profit of 150%. I closed it when POT turned bearish at 120 at the beginning of last week. I know it is sometimes difficult and you make mistakes with the direction. But with calendar, if you make a mistake, you can compensate for it with some adjustments.

It is nice to know money on a bearish trade in a bullish trend. I closed my AIG reversed collar today for a profit. I had a short position and a SP at 32. It went ITM. So, the trade will close with a profit finally after 4 months with an ROI of 17%. The details will be made available on the trade section in the blog.

It is important that we learn how to play bearish trend. We have enjoyed the bull for so long. If it turns bearish, lot of people will be struggling. Most people know how to ride a bull not do not know what to do when they encounter a bear. I believe a bear could appear anytime. Just be prepared. Most probably, we will have another up leg and after that a major correction or even a downtrend. Many of my indicators are showing major divergence despite the bull run. Volume is light. As long as there is no sell signal, I am still riding the bull but will be prepared to jump into the bear camp once my technical shows me the signal.

I got assigned for GDX at 48. Instead of buying a put on Friday, I shorted a call at 50. This was a new strategy I used. I felt it is better to sell a SC on imminent assignment rather than buy a LP. I will buy a LP only if the trend turns clearly negative. So I will have a covered call on Monday. My cost is 46.25. Stock closed at 46.29 on Friday. So, on Monday, if trade closed below 46, I will certainly convert it into a collar.


I was assigned stock on naked put for SU at 34. SU closed at 33.7. So, I will be profitable. I will decide on Monday whether to do a covered call or collar. May not even do anything as oil is recovering from the low at 69.

I am happy that I am getting some assignments with my short puts. At last I am getting some of my extra cash to work.


I rolled number of SC for my covered calls which went ITM this month.

- Line covered call : rolled DEC 25 SC to Jan 25 SC

- VZ covered call : rolled Dec 30 SC to Jan 32 SC. This stock has made me the maximum profit but I rolled it up keeping it slightly ITM for the short call. I like to keep the stock for the dividend.

- NLY covered call : rolled Dec 18 SC to Jan 18 SC

Finally, here ia an interesting adjustments which I am experimenting.

I had a call diagonal on GS DEC 165 SC and Jan 165 LC. It was losing some money. I added a LP at Jan 165 in the middle of the week. The banking sector was downgraded by a prominent analyst. The trade is now a straddle. I may put in some short positions next week to make it a single calendar or double diagonal. I may lose some money on this position but it will be minimum.

It is a handful on Friday. There were lots of action. Hopefully, we can learn something for all these adjustments.

I will comment on my position on precious metal in a separate posting on my blog this week.

Why I am still bullish on Gold?

I have given a lot of good reasons why I am still bullish on Gold.

I received lots of questions whether I am still bullish after the recent consolidation.

The answer is I am still bullish!

I believe the gold MAY go down another $50-$60 but when the uptrend returns, it is going to be parabolic. It could go up another $500. The reasons are complex but simple and succinct explanation is given by legendary fund manager in his recent presentations ( on slide 2 )are:

"
* Printing money will lead to paper currency depreciation
* Demand for gold as a reserve currency will increase
* Demand will overwhelm supply, causing price to rise sharply "


But that does not mean I am not hedging or protecting my portfolio of gold and gold stocks. I am current having short calls on all my long positions. If the price go up to my SC strike, I am fine as I will increased my profit. It is overshoot my strike and I believe the market is breaking up, I will roll the SC out and up or simply close it and take a small loss before adding short calls later when the stock reaches another level of resistance.

If gold falls below 1050 which is my support line, I will add protective puts to protective all my gold positions. It is small insurance to make sure that I keep the huge profits I have for this year. It does necessary mean I am bearish.

I am planning multiple scenarios and adjust as the opportunities present itself. It is important that I do not lock myself in a possible outcome although I believe the trend is up for gold. The market is never or always rational or logical.

If you think there are extreme emotions, there will be irrationality. To me, the point of irrationality for gold is still not present. I continue to see people getting out of gold at the slightest reasons and also, many of the smartest money managers and traders are still not going into gold. Thus, I maintain that the current leg up is still not a bubble or at a point of irrationality. This correction is healthy. Fundamentals are overwhelming to support gold. With the all the pressure building up on debts, loss of confidence in the paper currencies worldwide. and all the "energy" built up leading to the last run up for gold, I believe gold has some way to go on the upside.

SLV and GLD adjustments

There must be a lot of questions about the direction of gold and silver.

I firmly believe that gold is just in the phase of a correction. It may last for one week or even 1 month ( most probably ).

But the bubble is just at the beginning. ( see diagram above ) I expect a bigger move next year.

So meanwhile, I am just selling calls for all my long positions. I have not added any puts. But I will add protective puts once gold falls below my rising channels.

Meanwhile, I made two adjustments to my ratio spreads:

I sold back my SLV backspread call ratio for .38 losing $170 for 10 contracts. There is no point keeping this trade as it will require substantial movements up to make money. Time decay will eat up most of my gains in the coming weeks. If SLV collapses, I will make some money. But this is an unlikely scenario. Most likely scenario is that SLV will stay between 17 and 20 in the next 6 weeks. So, it is better to get out with a small loss.

I also made adjustment to GLD call backspread. It should work well as GLD goes up. I sold another 5 calls at 110 to reduce my cost. This will bring my risk profile to diagram above. I like the profile. If GLD goes down, I make some money. If it goes up above 112 ( not too much), I will also make money as long as it does not take its time to go up. If it goes up a lot, I will make a lot of money.

I am keeping my broken butterfly trade. It is slightly under water but time decay will compensate and I believe I will end with a profit for this trade.