The markets are on a steady march higher and show no signs of slowing down. So why is now the perfect time to buy put protection? At this point in the bullish rally, it is not uncommon to have a pullback. It could be significant or rather mild. Either way, a pullback after a rip-roaring bull rally will feel like the end of the world. For the SPX 500, a mild 3% drop equals 100 points. That’ll hurt.
Put options are great protection for your portfolio, because they accelerate in value as the underlying asset (stock or index) loses value. Therefore, put options blunt the pain of a market pullback by reducing the short-term volatility in your portfolio.
Why buy put protection now?
This VIX is currently under 12%. Volatility isn’t expected to move more than 1% over the next month, and realized volatility is just 5%. This means that the markets are not volatile, and they aren’t expected to be in the near future.
So why worry about a pullback? Markets tend to make big moves when sentiment is at extremes (like it is right now). Plus, anything can happen.
Look no further than May. Markets were at all-time highs with solid technical and sentiment indicators. Then a few tweets about tariffs whipped the markets into a frenzy. The VIX rose more than 100% in just a few short days. In fact,
You may think I’m crazy, but this is actually the best time to buy put protection as insurance. It’s just like buying health, auto, home, or life insurance. You don’t need it right now, but in case of disaster, you want to be covered.
If this is your first time buying put protection, here’s what to do: Add some at the money puts on the indices to your portfolio. My favorites include the SPY, QQQ, DIA and IWM. These liquid vehicles are currently very inexpensive (because volatility is so low). You can buy at the money puts two weeks out for a fraction of the cost of shorting the underlying asset.
If the bull trend continues and the puts lose value, sell them and open some new put strikes with a new, further-out expiration. Rinse and repeat.
In short, buy put protection today, sleep better tonight.
