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1. If you thought POGO would likely not rise or fall in price, with some downside...

1. If you thought POGO would likely not rise or fall in price, with some downside risk from surprise news, what trading strategy would you implement to minimize losses? Why?

2.If your boss told you to reduce the volatility of the portfolio's value as close to zero as possible, what trading strategy would you implement? Why?

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Answer #1

Answer 1

To protect a stock from downside risk (downside risk refers to the possibility of a stock price falling down), the trading strategy to minimize losses that can be implemented would be buying put options. A put option gives the option holder a right to sell the stock at given exercise price.

To explain this, lets say POGO is currently trading at $50 currently. If the trader is expecting the stock price to fall (downside risk) from the surprise news, then the trader can buy put option at a strike price of lets say $47 or $48 per share (whatever is available in the market) and can sell the stock at the exercise price, if the share price falls below the exercise price.

Answer 2

To reduce the volatility of the portfolio's value as close to zero as possible, the trading strategy would be to buy put options of stocks in the portfolio which are expected to go down and buying call option for stock which are expected to go up to reduce the portfolio volatility. This is to limit the downside risk by having put options and to increase the upside value of stocks which are expected to go up.

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