Considering Our Options – What’s $UUP

by CC January 5, 2016 1:43 pm • Commentary• Trade Ideas

We’ve had a view for some time that despite some temporary headline driven counter trend moves here or there, the U.S. dollar will remain strong vs other currencies due to the fact that the U.S. Fed is taking its foot off the gas just as others internationally are putting the pedal to the metal. This has been a consensus view for some time but that doesn’t mean crowded= wrong. This has informed our trading view from an equity standpoint as we prefer U.S. centric / high yield companies to those with exposure overseas that are more affected by the negative impacts of a strong dollar. Dan re-iterated this point last night on CNBC’s Fast Money:

While that remains our focus on the individual equity front we’re also focused on the currency itself. In late November we set up for new highs in the New Year for the dollar with a vertical call calendar. Let’s check in on it and see how we can manage the trade. First, here’s a recap of the original trade and the rationale at the time:

*Trade: UUP ($25.90) Buy the Dec31st 26.5/ March 26 vertical call calendar for .35
  • Sell 1 Dec 31st 26.50 call at .12
  • Buy 1 March 26 call for .47

Rationale – Consensus is that the dollar continues higher but there are a lot of moving parts here as no one really expects to see an aggressive FOMC beyond 1 or 2 symbolic rate hikes. And UUP already reflects a lot of the news. So as with any breakout play you want to be careful, define your risk and look to finance as best you can. This won’t lose money on any serious move above the 26.50 strike (although the profits are capped if that move happens before year end). Ideally we want UUP to creep up near 26.50 by year end and then we have a few options how to roll and further reduce premium risk in March.

UUP is about where we entered the trade and it’s good that we did the trade in the form of a calendar as the expired Dec short call has helped protect against decay in the long March call. With UUP 25.85 today the March calls are worth about 0.33. That is about our original cost of 0.35.

But we still have decay risk. The March 26 calls are still out-of-the-money and now are naked, with a calendar no longer helping. So what do we do now? We have two options as far as rolling the premium protection. January seems out of the question as the 26.5s are nearly worthless and the 26s are about 9 cents. We’d prefer to keep the bullish stance for a breakout above 26 so a sale of the Jan 26’s merely creates a same strike calendar which would become short delta above 26. So we don’t want to do that.

In February there are no 26.5 calls, only 27s and those are too cheap to sell at around 4 cents. That leaves us with March and creating a straight vertical. Right now the March 27 calls are around 10 cents. A sale there gives us a vertical call spread at the cost of .25. That’s decent but not great.

So what we’ll do here is see if we can get a move towards 26 in the coming weeks. At that point some of the other options of keeping it a calendar will get better, and that March vertical will also improve. Of course by not rolling the short call we leave ourselves up to more delta risk and decay risk, but at the moment we’re right around our original cost so we’re in no hurry. That could change is UUP goes lower from here at which point we’ll have a decision to make as far as staying in the trade. But we like the position to stay with consensus on the dollar for now, and nothing has changed out view. Now it’s just a matter of managing the options position to maintain that view until March.

We’ll update on the site when we’re ready to make a move.