“In our view, however, derivatives are financial weapons of mass destruction, carrying dangers that, while now latent, are potentially lethal,” wrote Buffett in Berkshire Hathaway’s (BRK-A, BRK-B) 2002 annual letter. Today, more than 20 years later, nothing has changed.
Our fearless, intrepid investor lost $US10,990.00 in her “fun” portfolio in one year writing (selling) covered calls. She bought Novavax (NVAX) to write (sell) covered calls on and as the stock declined, she lost much more than she received in premium income.
To a large extent, due to its derivatives involvement, twenty-five years ago, Orange County, California became the largest municipality in U.S. history ever to file for bankruptcy.
There is a safe way to deal with derivatives, however.
Only sell and never buy covered calls and cash-secured puts on SPY, which is an exchange-traded fund tracking the S&P 500.
How did she make out last week, and what will she do today when the market opens?
