Pricey Put Calls For Brazil Fund Bad Sign

August 07, 2014

Here’s a collar option on EWZ that reflects the poor trading sentiment for Brazilian stocks.

This is a weekly column focusing on ETF options by Scott Nations, a financial advisor with about 20 years of experience in options. Almost 112 million options on ETFs were traded in July, and because ETFs and options are among the fastest-growing financial vehicles in the world, it only makes sense to combine the two. This column highlights unusually large or interesting ETF options trades to help readers understand where traders believe a particular ETF may be headed. In doing so, Nations will examine the underlying options strategy.

Everyone’s worried today. And for good reason. It’s never a good thing when traders have to factor in geopolitical events and we’ve all had to rush to the Internet to find some of the places making headlines lately.

The U.S. market hasn’t made it any easier to feel confident. As we wait for the Fed to wake up, remember it’s Sunday morning, and that it’s time to clean up after the party. The current attitude is “good news is bad news” since it means the Fed’s alarm clock is going to go off even earlier.

Problems in the Middle East, Africa and financial concerns here in the U.S. make one wonder if we could turn to South America for some good news. After all, Brazil just staged a wonderful World Cup and is gearing up for the 2016 Olympics. There must be something good going on in their stock market.

Unfortunately, not so much, and one trader is worried about even less good news from the Brazilian stock market for the rest of the year.

Bad Brazilian Vibes

The Brazilian stock market has sold off in sympathy with the rest of the world as you can see from the one-year chart of the iShares MSCI Brazil Index ETF (EWZ | C-98), which is down 6.33 percent from its high on July 22, while the S&P 500 is down only 3.57 percent from its recent high.

EWZ performance

So there’s plenty to be worried about, and Brazil is no haven. At least one big options trader is taking steps to avoid big losses in EWZ, and he’s doing it with a pretty savvy options structure. On Tuesday, with EWZ trading at $49.20, he sold 10,000 of the $60-strike covered-call options expiring in January against a long position of 1 million shares of the ETF. He collected $0.62 for selling those calls.

That $0.62 in option premium is his to keep, but since he only collected premium equal to about 1.3 percent of the value of EWZ, he’s not generating much downside protection. If he really wanted to generate downside protection, he’d need to buy some EWZ puts, and so he did just that.

 

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