Nvidia Booth at Computex Taipei (credit: Computex Taipei)

Limiting Your Risk In Nvidia

Let's assume you're long 1,000 shares of NVDA and are unwilling to risk a decline of more than 20% over the next several months. Here are two ways of hedging it (screen captures below are via the next version of the Portfolio Armor iPhone app).

Uncapped Upside, Positive Cost

As of Tuesday's close, these were the optimal puts to hedge 1,000 shares of NVDA against a >20% decline by late December.

As you can see above, the cost here was $12,700, or 5.59%, calculated conservatively, using the ask price of the puts. By the way, the basic version of the Portfolio iPhone app, which allows you to find optimal puts like the one above, is now free to download.

Capped Upside, Negative Cost

If you were willing to cap your upside at 20%, this was the optimal collar to hedge against the same >20% decline over the same time frame.

You might have noticed two things different about this hedge. The first is that, after an iterative process taking into account its net cost, the hedging algorithm was able to find a slightly less expensive put strike, one that lowered the cost of the put leg to $8,450, or 3.72% of position value (calculated conservatively again, using the ask price of the puts). The second is that cost was more than offset by the income of $11,200, or 4.93% of position value, generated from selling the call leg (calculated conservatively, at the bid).

So the net cost was negative, meaning you would have collected a net credit of $2,750 when opening this hedge, assuming you placed both trades at the worst ends of their respective spreads.