Buy Insurance When It’s CHEAP

Insurance is great when you need to use it, right? You’re glad you have insurance against your car when an accident happens, and you’re grateful to have it if a big storm hit and wipes out your home. But paying for the insurance is often agonizing or annoying, knowing we are likely just throwing money out the window. But how do you protect yourself from the dangers of the unknown? If someone is willing to take the other side of a trade or position then why not take advantage – if the price is right?

The market is at a point where buying insurance against a disaster is cheap. Further, it stands to reason protecting gains against severe volatility into the end of the year is a smart move. The SPX 500 is up a robust 14% so far in 2012 and I suspect many money managers are behind the eight ball. I’ve been there, trying to hustle for some return in the last few weeks so I can exceed my bogey.

Not only was my incentive based on that achievement but my clients would measure my performance, too. If I didn’t meet a stated objective I was at risk to lose assets – which was more painful than missing my performance bonus. I suspect we’ll see money roaring after some names the last couple of weeks of the year.

I’ve also been on the other side. Back in the 90′s when I was managing a very large pension fund (with a slew of the best managers) they would also be tempted by the desire to outperform. I cautioned about being too ‘cute’ or aggressive warning that their future with our fund depended on them not doing anything ‘stupid’. Most got the message. It was not only in my best interest to guide my performance into the end of the year but to also help my various managers achieve their objectives.

When some were beating their goals it was best for them to put down their positions or just hedge their portfolios to market neutral, at least until the end of the year. I advised them, ‘Lock in what you have and cruise into year end.’ Most took my advice and made it pay off. It was also a time to shed the ‘dogs of the portfolios’, dismiss the names that were dragging performance, start fresh in the new year, build up an arsenal of cash and be more than ready.

Buy some insurance (puts are cheap). Nothing wrong with protecting what you have worked all year to achieve. This is a tough game but honors only go to the ones who put up the numbers through the end of the year, not 98% of the way. You won’t often find a such an opportunity to insure your gains so cheaply. If you view it from a practical standpoint, it makes sense. Take advantage, it’s money well spent. If it’s only for a few weeks – why not? A bird in hand is better than two in the bush. The BEST and most consistent money managers realize this to be a winning formula.

Bob Lang is the Senior Market Strategist and trades various option strategies for option trading newsletter Explosive Options