Pyramiding - a risky and very profitable strategy

Contrary to what might seem at the first glance, this essay is not about ancient Egypt nor the great creations of architecture in the Central or South America. This article is dedicated to one of the most risky and lucrative strategies ever developed. It might be particularly useful for gold and silver speculators who dare to massively boost their profits.

As you may see, pyramiding improves the rate of return, no matter whether you decide to use three types of options of just two. Our model assumes that there will be no increase in the (implied) volatility between as the price rises quickly. Should that be the case, the profitability of pyramiding would decrease at least modestly. The chart below should help to better understand how the profit rises along with the rise in the underlying security for each of the abovementioned strategies.

This model has several assumptions. If you are interested in it be sure to check out the instructions to this tool on our Website.

Before you go and make a killing thanks to pyramiding, you need to ask yourself what strike prices you’re going to use. That depends on many factors, but you usually should be satisfied if the strike prices you use are “somewhere in the middle” between current price of the underlying security and the forecasted price. You might wish to use three or more different strike prices if you predict a really large and fast move in a stock, metal or index. In that case, the strike prices should still be between actual price and the forecasted one, but the differences between them and the starting and final price should be close to being equal. The Pyramid Optimizer, available on our website, can calculate these strike prices for you.

This kind of trade is wonderful to one’s account balance, if it is successfully executed. Yet, there have really been only a few times during the last couple of years when it was rational to really use them. At times, precious metals move in a fast manner, but as we all know too well, we sometimes have long consolidation periods, during which pyramiding really doesn’t make much sense. To achieve very high rate of return you would ideally want a stable market, which starts to move in a given (most likely that would be up) direction and it rises very far. For example, take a look at the magnificent run-up silver had back in the 2005/2006, or the very recent surge that drove the price from $14 to $21. These are the moments you might seriously consider pyramiding. It is also possible to profit on the falling prices, but conducting such a transaction is really challenging.

So – what’s a precious metals investor or speculator to do, to take the full advantage of the outstanding opportunities that pyramiding has to offer?

Firstly, don’t get too greedy. Gold and silver markets are very volatile at times, but that doesn’t mean that they will be volatile each time you make a prediction. In fact – if they were so volatile all the time, the overall profitability of this strategy would decrease – but we don’t want to go into details in this essay. Sometimes it’s best not to take any action and see how things unfold. Be sure to take your position when the chance of winning far outpaces the risk you take on. You may use our tools to help you with this comparison. Either way, we suggest waiting for clear signals before getting involved in this strategy. This could be gold breaking out of some chart pattern, particular positions taken by Commercials or Large Speculators, as indicated in the CoT Report, witnessing excessive fear on the precious metals market, or anything else that would convince you that “the move” is imminent. Let this opportunity come to you. Don’t look at every market action trying to figure out whether that was it or not. Following these rules should make your portfolio safe and more and more sizeable.

At the end of the 1970 – 80 bull market in the precious metals the price of both gold and silver went parabolic and allowed investors to achieve astonishing rates of return. Now imagine that these profits could have been increased at least ten-fold thanks to pyramiding... Another interesting thing is the junior mining sector. Juniors tend to rise very fast at times, especially during the final stage of particular upleg. This applies also to the whole bull market meaning that juniors absolutely thrive in the speculative frenzy when prices of precious metals rise in a parabolic fashion. When precious metals were rising very fast, most juniors were skyrocketing! Now imagine what could have been achieved if you had a portfolio of warrants and used pyramiding on them.

That’s right – you could apply this strategy to precious metals warrants. This is more complicated than using it with options, as there usually is not that many different types of warrants for a given company. You would need to check particular juniors’ correlation etc. to successfully execute this strategy with warrants. We will get back to this issue in our future essays.

The conclusion is that pyramiding is another strategy that gold or silver speculators could use to maximize their profits. If you use it wisely, you can also decrease your overall risk exposure. Like all tools, pyramiding is not good nor bad itself – it can only be used in a good or bad way. This strategy gives you the ability to achieve enormous gains under particular circumstances, but you need to be careful not to overuse it.

On our website you can access the Pyramid Optimizer, a tool that can help you improve your rate of return in using this strategy. Register today and you will gain access to this and all many other Tools. We use the methodology described in this essay as well as many other techniques to forecast market’s moves and discover unique opportunities for profit. When you register, we will send you occasional, brief market alerts, based on our research, whenever situation requires it. Registration is FREE of charge and you may unregister anytime.