Roll your hedges up, or pay for it later
Hey,
I am back after a few days off in Portugal!
So, for today, I wanted to discuss one thing I've been thinking about given where the market is.
When you run long equity with protection in the book, every rally shrinks that protection. The hedge drifts further out of the money and decays toward zero.
That's fine. That's the hedge doing its job. If the market is ripping, your long-only book should be up good money. If it isn't, you probably overhedged in the first place.
Now the part that costs people money.
At some point you've got to roll those hedges up. Replenish them. Reset them at the higher level.
Because if you don't, you've quietly become unhedged.
Your old protection is still on the books, but it's sitting so far below spot now that it's worthless as protection. When the market finally pulls back from these higher levels, that hedge is too far away to pay you anything.
So you give it all back. Every dollar you made on the long-only on the way up, handed straight back on the way down, with no hedge doing any work.
The fix is simple. As the market rallies, you keep replenishing hedges at higher strikes. You pay a bit of premium to reset the hedge. That premium is the cost of making sure the gains you banked on the way up actually stay banked when the market rolls over.
Most traders treat hedging as a one-time decision. Put it on, forget it. But a hedge set 15% ago is still protecting the portfolio you had 15% ago. The market moved. The hedge didn't.
The hedge has to move with the book. Rolling up is the price of keeping the gains real. This is often the reason investors chose to hedge with VIX instead of SPX, because when the VIX reaches a floor, it's almost as if you hedge rolls up automatically with the market.
This is the kind of portfolio-level thinking I make sure you become proficient at. How to manage a hedge as the market moves so your protection actually lines up with the risk you're carrying today.
If you'd like to get a flavour of the framework I use, watch my free masterclass whenever you've got the time.
If your hedges are still sitting where you left them last month, this is worth 60 minutes.
Imran
Disclaimer (Your Gains & Losses, Your Responsibility): This content from Options Insight LLC (“Options Insight”) is for educational purposes only and does not provide individual investment advice or recommendations, nor should it be considered an offer to buy or sell any security. All information is general and not tailored to your specific objectives, financial situation, or risk tolerance. Employees of Options Insight may hold positions in the assets discussed. While we use sources believed to be reliable, we are not responsible for errors, omissions, or losses resulting from reliance on this content. Always consult a licensed investment professional.
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