Shorting Treasury Options: Profit, Rinse, Repeat

by ETF Base on December 6, 2011

Every few months, I’ve been repeating the same pattern of shorting out of the money leveraged ETFs on US Treasuries and keeping the premiums when the options expire.  It’s been a nice way to supplement largely flat market returns with recurring income, and in my view, without taking on an inordinate amount of risk.  Since that was a mouthful, I’ll explain.  In my latest post on the matter, I laid out the case and specific trade for shorting treasuries in September.  The key facets of that particular trade were the following:

  • Sold TMF Calls (TMF was priced at 61 at time of trade in early December)
  • Strike Price $75
  • Expiry November
  • Premium 3.40 each

Come November 21 options expiry, these option contracts expired worthless of course, so I kept the full premium.  I do these a couple at a time, so that was $640 less a $10 commission or so.  But in doing so several times per year, it’s a decent ~2K or so I can earn each year and still sustain a loss now and then should the bond markets rally (ironically) when ratings agencies downgrade US debt each time.  But I digress.  I just did it again that very same Friday when this last set expired with the following details:

Latest Trade

  • Sold TMF Calls (TMF was priced at 70 at time of trade in early December)
  • Strike Price $85
  • Expiry Feb
  • Premium 3.90 each (*2 = $780)

I anticipate with TMF now trading at only 67 (with markets rallying, long bond prices have dropped), I’m in pretty good shape on this set as well.  The bid/ask is 1.90/2.45.  Oh, that’s the other thing; the bid-ask is sometimes pretty bad on these out of the money options on exotic ETFs, so make sure to enter as a limit order to get the best price when selling!

Selling naked call options is not for the faint of heart of course. You have unlimited liability in that if Treasuries were to rally substantially enough to drive TMF up 30-40% in a week or two, you’d be well into the red (note that TMF is a triple leveraged ETF which is by design since they all go to zero to daily resets given enough time!).  How could this happen?  Basically, whenever people freak out, they flock to Treasuries.  If an overt bombing of Iran occurs (yes, they have been bombed several times this year now and they keep claiming they were “accidents”); if Europe implodes further, if there’s some other unforeseen malady that causes markets to crash, TMF will rally.  Why?  US Treasuries, as laughable as it seems, remain the safest investment in the world during times of fear, even moreso than gold, which often sells off during market crashes as well as investors liquidate everything that’s not chained down.  So, you COULD see TMF rally quickly; I just don’t lose sleep over the prospect of a move that large overnight.  My options are so far out of the money and I buy so few, that I can monitor the situation every day or two and react accordingly.  Remember, with options premiums ticking off value day by day, I’m making money for doing nothing each day :>

Here’s a screenshot for your perusal.

tmf-options(click to enlarge)

If you’re interested in doing more on the options front, you should check out Options House (review), where you can also get 100 Free trades when you open an IRA account.

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