The Best Bet on the Board

By Todd Harrison  MAR 22, 2010 9:40 AM

Making the best of a tough situation.


The market is a polarizing topic of discussion these days. Many who follow the credit markets suggest equities have room to run -- lots of room. Most of them will point to the general malaise in the marketplace; while Main Street loosened the grip on its woogies since last spring’s fetal position curl, they struggle with the disconnect between what they see on the screens and how they feel about the real world. That, in their rose-colored view, creates building blocks in the wall of worry.

There are a few tricks to the upside trade, as you might expect. For starters, social mood and risk appetites shape financial markets. As we’re apt to say in the ‘Ville, the Crash didn't cause the Great Depression, the Depression caused the Crash. Through that lens, one could argue the deteriorating social mood discussed above is exhibit 1A in the "It'll be obvious with the benefit of hindsight" ursine argument. “Things," for lack of a better word, aren't improving for the average American.

While I'm a net seller of new paradigms, I would argue that this time is indeed different. FDR didn't know what a derivative was, nor was he dealing with an interwoven finance-based global economy. From Google (GOOG)-China to US-Toyota (TM) to EU-Greece, seeds of isolationism continue to sow. That, my friends, is on the opposite end of “globalization” on the prosperity spectrum.

The question, of course, is one of timing. It's easy to say the longer this continues, the more painful the comeuppance will be. Maybe "easy" isn't the right word; perhaps "honest" would be a better fit. Either way, what we really need to know is whether this is near-term business or if it'll cumulatively build (again) until 2012 when the schvitz really hits the fan. A smart man once said you can game the direction of the market or the timing of the move, but rarely both.

I was asked on Friday, "Gun to head, do you think the S&P trades with a nine-handle this year?" A back of the envelope later, I offered, "Hmm, 14% to S&P 999? Gun to head, I would say 'yes' but it's much safer if we turn the gun around."

How does one do that? In my view, "long vol" (read: positions with positive gamma) is the best bet on the board. Some of the most lucrative trades when I ran big money were when I traded long vol and was 100% wrong on the directional bias.

That's a different conversation then buying VXX calls (those are horrible vehicles -- you get punked on the liquidity, tracking and the spread) and it's certainly not a stylistic approach that works for everyone. If you're an option neophyte, it likely won’t be a pleasant learning curve (be forewarned -- the pro’s feast on odd-lot public orders).

If you wanna learn more about the options arena, I would suggest reading the excellent six-part tutorial that John Succo wrote in 2003. It's by no means a license to swing a big risk bat, but the first step towards financial success is proactive preparedness.

Random Thoughts


Position in S&P