Hi James, re: Options Straddles on Oil vs Gold ?
...very good question.
Oil in my opinion, has disconnected completely from it's "real" underlying supply:demand fundamentals and has entered a speculative phase, not unlike what we saw with the Internet & Tech Bubble in the Nasdaq 5 years ago.
During the irrational speculative excess of the Tech & Internet Boom on the Nasdaq during 1999-2000 there were a lot of Great Traders, Fund Managers and Legendary Investors who walked away and/or closed shop during that timeframe - like Julian Robertson and Stanley Druckenmiller, as well as those who simply refused to participate - like Warren Buffett.
They were ridiculed for being old, irrelevant and/or just unknowing and out of touch with the quote:unquote - "New Paradigm."
Fwiw, hopefully one of the great lessons learned by this fairly recent event... was that Age, Experience and historically proven Money Management and Investment Principles become more, not less important during so called - New Paradigms.
But, from a Traders Perspective... being 110% correct that it was indeed a Speculative Bubble at Naz 3500 - got you wiped out if you decided to trade it against it right then & there.
As we learned, Bubbles can go much higher and for much longer periods of time than virtually anyone anticipates.
You can't just be right on the "WHAT" - ie: that it is indeed a Bubble... you must also be right on the "WHEN" it pops as well.
Normal Markets are difficult enough to time... Speculative Mania's & Bubbles are next to impossible.
...that raises the question - then how do you trade a Bubble ?
2 Answers imho:
1. You don't.
Imo, for 90% of Traders, this will prove the prudent route. Take the Easy Money already made from the earlier portion of the cycle and simply walk away and stay away.
There is usually always another major Market Sector, or a niche within it - that has been ignored and has very attractive Risk:Reward Metric's.
Look at how cheap and forgotten the Commodity Sectors had become during the Nasdaq Mania.
The Secular Bottom for Gold was forming just as Tech was collapsing. You could have bought the HUI around the 60 level during that environment - and over the next couple of years the HUI Gold Stock Index went up 4-Fold from that level over the next 3 years.
While the Speculative Mania Du Jour is getting all of the headlines and all of the money... some other sector is getting ignored and mispriced... THAT is the opportunity that Sharp Traders should look for vs. trying to chase that last speculative run left in the Mania-Sectors.
While Oil was not in a bubble in 2000 - it was fully discovered and valued, later in the year I pounded the table to make the leap from "Black" to Yellow Gold... and was able to leave the OSX at 130-140 and catch the HUI as formed it's bottom from 60 to 35.
Here's what walking away from a full discovered, fully valued sector into an under-discovered, under-valued Sector allowed:
finance.yahoo.com
The HUI from it's bottom in late 2000 went up 6-Fold over the next 3 years while the OSX immediately collapsed by 40% and today... right here at "alltime highs" is only +15% higher compared to a 6-Fold increase in the Gold Sector.
No better Trade Exists than exiting sectors that are fully discovered and fully owned by the Individual and Institutional Investor anywhere near historically rich valuations and exiting into another Sector that is under-owned, un-discovered and at a discount from it's historic norm.
There is always an undiscovered, underowned sector, or trade - somewhere in the market...
2. If you do trade it - trade it small.
Then trade the most logical and perhaps the only "sane" component of the trade that exists...VOLATILITY.
- at NAZ 3500 & soon thereafter, both Longs and Shorts got crushed.
- since timing a mania is so difficult - buy time, literally... with LEAPS. Structure your initial Straddle Trade with LEAPS, whether it is a static, or a dynamic/moving Straddle.
In retrospect, it's rather obvious that the best trade to have been made at NAZ 3500 would have been a "straddle" on Volatility, or buying time with LEAP Puts.
1500 to 5000 and back to 1500 !?!?!
Oil from the $20's to $60, $80, $100 and back to $20 ?
- we shall see ~
Oil was collapsing this spring and in the mid-$40's - THE WORLDS LARGEST OIL DERIVATIVES TRADER - Goldman Sach's came out with a near unprecedented $105 Oil call...but, it wasn't the "call" that moved the market... it was a Waterfall of Money that came into Oil against every historic trading norm seen in the Oil Pits for decades. A "floor" was put under Oil and it was done so, from "outside" of the market.
Commodity Traders are smart enough to recognize a "fix" when they see one... ie: Enron's Nat Gas Bubble just years earlier.
For now, there is a floor under Oil Prices and that is all "Speculators" need to know...
..."for now"
The Bet on significantly higher prices for Oil and Oilstocks is also a bet that China doesn't crack, that the ripples being sent across the Global Pond via the begining of the rebalancing of Global imbalances with China's Re-peg doesn't cause any market shocks and most of all; that the US Economy that has been a Jobless, Wageless & Savingsless - Massive Debt, Credit & Housing-Refinance Bubble that has left the US with massive Deficits, unfunded liabilities and the World awash in dollars... doesn't roll over into recession.
That last one... is going to be a very attractive bet ~
...but, of course Greenspan in his Humphrey Hawkins address assured us that Central Bankers are behaving as if they are on a Gold Standard and that the flattening, or even Inverted Yield Curves no longer matter.
So why shouldn't Oil Bulls not worry & be happy ?!?!?
Well for starters, the majority of the "fundamental" rise in the price of Oil has been more "PEAK DOLLAR" related than it has been "PEAK OIL" related.
Inventory levels are well above historic norms and this is with Iraqi production in chaos. XOM's Lee Raymond and BP's Lord Browne have both said, as did VLO's CEO - that present Oil Prices are NOT fundamentally supported and that there is no shortage of Oil.
Europe has 10 year highs of Jet Fuel and Indonesia has just turned away Oil Tankers. The Saudi's just set an outgoing shipping record, but are now cutting back production in Q4 - because they DON'T HAVE ANY CUSTOMERS FOR ANY MORE OIL !?!?!?
I think I've traded the Oil & Gas cycles over the last 7-8 years pretty well. But, they were markets that were operating within the traditional bounds of supply:demand and Economic Fundamentals.
Natural Gas did get a little mania-esque during the California Electricity Blackouts aided by Enron's market fix (how soon we forget about "fixed" markets)and that became a great short, but it wasn't being driven, or manipulated by forces as broad, or as deep as are in Oil presently.
While Oil for many reasons, is being pushed upward - Gold has the exact opposite problem, being capped by Central Bank Sales etc.
Oil went from $20 to $60 - a triple.
If Gold had tripled and went from $300 to $900... I'd probably be thinking about a "straddle" for Gold at those levels as well.
We can only hope that one day soon we we'll be talking about sizing up a "straddle" for Ole' Yeller.
Right now... the "3rd Eye" is focused on the undiscoverd, the undervalued and the mispriced.
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