From the December/January 2013 issue of Futures Magazine • Subscribe!

Play a bullish gold outlook while reducing risk

Options Strategy

Technically, February gold is just north of its 200-day simple moving average. February gold closed $1,677.30 on Oct. 2 with the 200-day simple moving average at $1,672.80. The 200-day may provide some support, but there also is support at $1,650 and $1,600 (see “Firewalls in place”). 

General uncertainty and market volatility lend to near-term options strategies, so we will consider January options (governed by February futures), which expire on Dec. 26. We would execute a ratio spread by going long a January 1X2 call spread; buy 1 January gold 1700 call at $26 and sell 2 January gold 1750 calls at $12 for a net debit on the ratio of $2, or $200 plus commission, which makes the downside risk a fairly small $200 plus fees and commissions. 

Ideally, gold futures move toward your short strike (1750) at expiration, in which case the position has a maximum potential value of $50 less your $2 debit or $4,800. Again, this position is net short one unit, so there is unlimited upside risk. Your breakeven on the upside at expiration is $1,798, above which the position has unlimited risk. (You could purchase the January 1800 call and turn the position into a long butterfly – defined risk, at any point).

As a ratio, the initial margin is $4,150 and $3,100 to maintain. The delta on the ratio call spread is flat at inception, but it bleeds into a long delta as time passes, depending on price.

If you are more bullish and more aggressive, you may consider buying the outright February gold futures at $1,675 and sell 2 January 1750 calls at $12 each. You collect $24 ($2,400) in option premium (excluding frictional costs). Expiration breakeven on the downside is $1,651. The ideal scenario would have gold move back toward $1,750 at expiration, in which case the position has a maximum potential value of $9,900 less commission. The position is net short one unit, so your upside breakeven at expiration comes in just below $1,850. 

The position is long 50 delta at inception, so in theory you would be long one half of a futures. The initial margin is $8,500 and $6,250 in maintenance. However, this position has unlimited risk outside of breakevens.

Traders who are bullish but believe the correction has more legs and prefer a passive approach may consider selling outright puts at a level they would be comfortable owning gold futures. For example, a short January 1600 put would collect $1,500 in premium less commission; the 1575 would bring in $900.

Whichever scenario suits your outlook, it is important to establish a plan and trade your plan. Expect volatility. Make it your friend. 

Kevin Davitt is a global execution and futures/options broker at RCM Asset Management and a former CBOE and PHLX options market maker. He also has been a proprietary trader in the energies, metals, grains and index sectors. You can reach him at

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