Gj, there are no magic puddings. Everything involves risks and trade-offs.
I don’t do much share hedging as I don’t hold a share portfolio. But I trade directionally and have used various instruments so can give some pointers as to what you might research further.
To keep it simple, if you hold a long portfolio, to hedge you have to short with something. The only opportunities to do that in the Australian marketplace are: Short selling shares; CFD’s, Mini Warrant or Exchange Traded Options. To give an overview:
Short selling shares: I don’t believe is available to a retailer. Would have to replicate your whole positons in the opposite direction so not really suitable for hedging.
CFD’s: Conceptually you could use for hedging. I would never touch them due to perceived risks but someone else on HC might be able to advise. I don’t think they are normally used for hedging and I expect similar issues to Warrants below.
E Mini Warrants:
Possible. The largest provider and for practical purposes only provider is CitiFirst Warrants Australia, part of Citigroup. They are listed and you just buy on market a short warrant like a share. Call them and get them to send their daily email of current Mini warrants on issue or they be listed on their website.
Low risk, you can’t lose more than the initial positions placed.
Easy to use
Move one for one with the share.
Have no time limit
Have no time premium paid.
This is the sort of thing I think you are getting at in your post. Share drops a dollar, your short warrant position gains $1, assuming you’ve bought an equal numbers of shares and Mini’s. So completely hedged both directions and you just collect the dividend.
Negatives though:
Limited coverage of underlying shares, but for BHP ok.
Limited range of strike prices and hence leverage required, but for BHP ok.
Risk of getting Stopped out. These instruments have an Autostop so if the price goes up on a short warrant you only have a limited buffer. The way to manage this is to reduce the leverage and hence widen the buffer. I experimented a lot with these doing about 200 trades over 2 years and will no longer trade them due to this issue. I eventually concluded you needed to set leverage at maximum 60%, but in your case for hedging say 50% to avoid getting stopped out. Most Warrants are issued at around 80% leveraged, but less is sometimes available. You can also call and talk to Citifirst and they might create additional series for you if BHP.
The issue is that you don’t want the price to spike up on a short-covering rally in a downtrend, stop out your hedge for a loss, then fall back and create a loss on your underlying position as well. So not a perfect instrument to use. But you could explore this and paper-trade it a while to see how it works.
The other Issue though is that it ties up a lot of capital. At 50% leverage, you need to put up equivalent to 50% of your underlying position as additional equity to set this up.
Options
Options are what the professional funds use to hedge. Main advantage is you can’t get stopped out due to spikes. Just that they have a time limit. Also only 75 stocks covered.
If you want 1 for 1 price movement you just go deep in the money, which his basically what the Mini Warrant is conceptually. Should be reasonable liquidity for this.
But if just hedging risk of big fall, go well out-of-the-money and pay a small insurance premium. Problem is getting liquidity for more OOTM or for more than about 4 months out in time.
Covered Calls.
The other thing you should look at is writing Covered Calls. Google it, rather than me explaining as very common and basic strategy.
This is what I’d do if I had a big BHP SMSF position. It doesn’t give a lot of downside protection, but some people pursue this as a strategy in it’s own right, and you’ll probably make more money anyway if you keep rolling these out.
I don’t do it, but I understand the basic set up is selling a call option about 10% Out Of The Money as stocks rarely rise more than 10% a month or so, but maybe avoid periods where seasonally strong or otherwise likely to go for a run. Also I think buy about 45 days from expiry to optimise the time decay.
Best situation is that your shares move up slightly, but less than 10%. The Call option expires and you make the full premium as well as profit on the shares and also the dividend when due. As an SMSF it doesn’t matter about holding for 12 months, so if it goes up more and you're forced to sell your shares just buy back the position again. If stock falls Option gives you a small partial offset. But the idea is you just write new call options every 45 days (say 6+ times a year), collect a few % premium each time, plus your dividend and you won’t be worrying about share price falls. I know someone who made a lot of money this way, although he did it post GFC when Volatiltiy and hence Options premiums might have been higher. Options are priced off both Volatility and the underlying Share Price, so you need to learn Volatility and really research this strategy to understand it. Also BHP Call options at 45 days to expiry will have plenty of liquidity so don't worry about this aspect.
The above are just pointers. All have pro’s and con’s. What I’d be looking at in order is: Writing Covered Calls; Buying OOTM Put Options; maybe buying short Warrants at a stretch. But only if I was expert in the use of each and had fully tested the chosen strategy.
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