Tax Deferral Strategies & Commodity Option Trading
A Strategy For Commodity Option Trading That Can Save You Money
For years up until the burst of the bubble, investors needed
only to be right about what kind of commodity option trading
they got involved in. Should they buy XYZ, ABC or PDQ? The philosophy
at the time led investors to believe that the purchase of the
right stock in commodity option trading was the key to success.
The question was not which stock will go up? but which stock
will go up more? It was a time of buy and hold and the concept
of sell was often overlooked and infrequently used in commodity
This remarkable bull market phase was characterized by large
moves, and also by some degree of investor complacency in
that they just bought, held, and waited to profit from their
commodity option trading.
When the bubble burst, commodity option trading became much
more volatile, making it too dangerous to just buy, hold and
wait. As quickly as an investor had a profit, the market could
turn and they would suddenly be faced with a loss. The time
of buy and hold had ended and the time of buy and sell had begun.
The importance of taking a quick profit from commodity option
trading now meant the difference between profit and loss. The
shrewd investor took profits from commodity option trading quickly,
instead of waiting and having those profits disappear. However,
one of the problems investors then faced was higher taxes, in
the form of short term capital gains.
Investors who sold their stock accumulated from commodity option
trading before holding for a one year period were hit with these
higher short term capital gains taxes. Short term capital gains
are treated as ordinary income thus taxed at that rate which
for most investors is 25%. That tax is much higher than the
long term capital gains tax of 15%, up to 67% higher.
Prior to the burst of the bubble, an investor was pretty safe
holding onto an investment gained from commodity option trading
for a few extra months in order to get beyond the one year mark.
Then they would sell their position and only incur the long
term capital gain tax, which today is 15%.
These days, it can be dangerous even waiting a couple of extra
days, let alone weeks or months. That delay can mean the difference
between having to pay taxes from commodity option trading or
finding a previous gain to put against your new loss.
Fear not investor
commodity option trading to the rescue!
As we have established in The Stock Replacement Covered Call
Strategy, a deep in-the-money call can be substituted for stock
under appropriate conditions. In the Stock Replacement Covered
Call, you used the purchase of a call with a delta in the mid
to high 90s to replace your long stock. As you saw, the call
behaved very similarly to a long stock position.
In this case, you will again use a deep-in-the-money call to
replace your stock. This time, however, you will engage in a
sale of the call to mimic the sale of the actual stock. With
proper timing and call selection, you can hold on to the stock
until the one year time line passes without risking the potential
decrease in your commodity option trading profit. Lets take
a look at how this works.
We begin our analysis by walking through a commodity option
example. Lets pretend that you were commodity option
trading with stock XYZ at a price of $45.00 in January 2003.
Over the course of the next nine months, XYZ traded up to $82.00.
At this point (October - the ninth month of ownership), you
feel that it is time to take your profit and sell your stock.
However, since it has only been nine months since the purchase,
you would be susceptible to the higher tax on your short term
capital gains. But, by waiting another few months, you run the
risk of the stock trading down and losing profits.
If you sell the stock, you lose additional money because of
the difference between short term (15%) and long term (25%)
capital gains taxes. If you wait out the year, you risk the
decrease in the stock price. What should you do?
The best solution would be to sell a call option against your