Application of Gold
Options in Enterprise
Risk Management
Paul Sacks, CIO, Aurum Options Strategies, LLC
Shanghai Derivatives Market Forum
May 29, 2014
Exciting Opportunity
• Extraordinary moment in time
• Discussion of options, particularly in this amount of allotted time, is more
interesting and informative by way of example.
• Let’s talk about GOLD
– Benefits – ubiquitous academic research
• Landscape looks problematic
– Improving economic data, QE tapering
• Problems (FOR HEDGER AND INVESTORS)
• Options strategies, what options can offer
• With that said…
– “I am the biggest gold bull in the room.”
– “I own zero gold.”
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How Options Mitigate Risk
• This is a topic about which I am passionate
• I will highlight
– What makes options unique
– Gold options strategies that can benefit HNW individuals and gold
consumers
• Some introduction to building blocks
• Some more complex option combinations
• Examining PnL graphs and comparing pros and cons
– A common strategy employed by commercial hedgers and an
innovative approach to improve it
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Options: A Unique Tool
• Characteristics that make options unique and interesting
– Asymmetric return profile
– Time dependency
– Strike dependency
– Path dependency
• Multi-dimensional
• Unmatched in their potential for diverse financial “expression”
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What Next?
Source: CQG
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Okay … Let’s Get Into It
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How can we use options to improve our gold exposure?
Starting simple
Vanilla calls and puts
Call option
Debit
Premium at risk
0
Limited “tenor” typically inexpensive
• Long 1 June 1400c at 0.50 USD
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Building On It
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Call spread
Still initiated for a debit
Financing
Limited upside
Increasing tenor
Long 1 December 1350c at 35.00
Short 1 December 1400c at 20.00
15.00 debit
Profit
0
Spread Price
{
1350
1400
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More Complex
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1x2 call spread
Net short calls (-1)
Unlimited risk
Long 1 December 1350c
Short 2 December 1400c
Collecting premium
5.00 credit
Profit
1350
1400
1455
Gold price at
expiration
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Aurum Structure
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Lets combine two building blocks
1x2 call spread + outright call
1x2x2 (multiple tenors)
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Key benefits
– Capital preservation - overall short premium
– Leveraged upside - net long calls
Key risks
– Requires active management, purchasing of front month outright calls, must
buy this short dated call
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Strategy Description by Regime
• Possible outcomes
Price of Gold
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Mitigation of downside volatility
Benefits of optionality; no stop outs
Uncorrelated to gold
Beta close to zero
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Absolute return area
Uncorrelated to gold
Slight negative beta
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Large potential gains due to leverage
Outperformance relative to long
underlying
Correlated to gold
Strong positive beta
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Beneficiaries
• It works well for
– HNW individuals that own gold
– Investors who want gold-like protection in their portfolio, but don’t
want to experience the 2013 downturns.
• For them gold represents an insurance play. They know they are
not market timers.
• They have the potential to make more on an extreme move
anyways.
• Should also be considered by
– Consumers, jewelry makers, etc…
• Anyone who inherently benefits from a lower price (cost of input),
and conversely is punished by a higher price
• WHAT ABOUT COMMERCIAL HEDGERS?
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Quick Pause… Commercial Hedgers
• Gold Mines
– Increase predictability
– Smooth cash flows
– Focus on “core” business
– Increase competitiveness
– Make profitability a function of how well they run business, not where
gold goes
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Most Common Approach
• What is a zero cost collar?
• buy a put and sell a call to finance it
• Combining underlying with zcc = look familiar?
Profit
Hedged Position PnL
Gold price at
expiration
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Standard Net Result
• Gold mine’s new PnL graph with zero-cost collar (50% hedging)
Profit
Overall PnL
Gold price at
expiration
With Hedge
Without Hedge
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ZCC – Often Used, But Best?
• Zero cost collars are not “zero cost”
– Forgo tremendous upside PnL
– You are selling low vol, buying high vol
Long Put
Short Call
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Back to Aurum Structure
• Commercial hedgers need to protect downside, not upside
• Remember options are nearly the definition of flexible
• Superior hedging strategy for Gold mines
– Full participation in upside
– Equal flexibility to downside protection price
– Selling, not buying, higher priced vol
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Back to Aurum Structure
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Back to Aurum Structure
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Conclusion
• Options are unmatched in their ability to enable you to employ financial
expressions, manage risk
– For consumers, producers and investors
• Flexible
• Optionality
• Efficient leverage
• This is why …
– “I am the biggest gold bull in the room.”
– “I own zero gold.”
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Disclaimer
• This talk has been a quick overview of complicated strategies. It is not
intended to be taken as a specific trade recommendation, nor a
solicitation of any kind.
• Trading options involves risk. Option pricing is impacted by many factors
and requires experience. Any of my colleagues or I are willing and happy
to discuss risk management strategies in further detail.
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