West Texas Intermediate (WTI) is down 5%. As of midday July 28, the October $15 puts on the United States Oil Fund LP ETF (NYSE Arca: USO) that I recommended buying when they traded at $0.50 each were up 40% and trading at $0.70 each.
Here's what's next for oil prices - and what to do with your winning USO position...
Crude oil is in a bear market - again. It's down 20% from its most recent highs set on June 10.
Oil - being a commodity - mostly trades based on supply and demand. And because there's been an increasing supply of oil in the face of only a moderate pickup in global demand, oversupply is leading to further price cuts.
Thanks to an explosion of shale oil, the United States is producing 9.7 million barrels of oil a day. That new record, eclipsing the old mark set back in 1970, makes America the third-largest oil producer behind Saudi Arabia and Russia.
Additionally, Saudi Arabia and Iraq are producing at record levels themselves, and Russia is desperate for revenue, which it gets by selling its oil. Then there are prospects that disruptions in crude production in Libya could soon be reversed, and Iran is capable of adding another million barrels a day to global supply, if and when sanctions are lifted.
However you look at it, there's a lot more oil coming to market in the foreseeable future.
Morgan Stanley (NYSE: MS), whose analysts underestimated the supply of crude coming to market, now says a potential oil crash could be the worst in 45 years.
That's good news if you're short oil or short oil-services companies - as we are in my Short-Side Fortunes advisory service.
Or if you followed my recommendation here to buy put options on the U.S. Oil ETF...
The October $15 puts (USO151016P00015000) I recommended here had surged 40%. And with the oil supply rising, there's room for those puts to go higher - maybe a lot higher.
Here are some options to manage this trade now...
If you think oil will bounce higher from here, sell your puts and grab your big, quick profit.
If you're bearish on oil like me, I recommend you use a stop-loss to sell the puts if they drop back to $0.50. That gives oil room to bounce a little from being "oversold" on a technical basis. And it keeps you from losing anything if a bounce turns into a snap-back rally.
I'd hang on and see if oil reverses from Tuesday's pop higher and heads back down. I'd be looking for a big move that sends the put options back up to $1, which would mean you're up 100%.
If the puts get to $1, we'd know oil prices are slipping and be more comfortable that we're on the right side of the move and that prices might keep going down.
At a put-option price of $1, I'd sell half the position - locking in 100% there - and hold onto the other half, looking for an additional 50% gain on the remaining puts.
I'd take all my profits there and be very, very, very happy.
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If we get the oil price slide we expect to get, but fear another snap-back rally from there, here's what to do. After you take your 100% gain on half your position, put down a stop-loss order on your remaining holding to sell if the puts fall back to $0.75. That way, you make 100% on half your position and 50% on the other half.
I'd be very, very happy with that gain, too.
Of course, oil prices could pop any time for any number of reasons - for instance, the Organization of the Petroleum Exporting Countries (OPEC) could agree to production cuts - and your puts could fall quickly. If you're worried that you'll lose the profits you have, then any time you're afraid the trade will go backward on you, sell out and take whatever profit you can.
Because at the end of the day, ringing the register with any amount of profit is a good day.
Murphy's Law tells us that "anything that can go wrong, will go wrong."
Don't get caught up in Murphy's Law.
It's always great to be in a profitable trade. But sitting on profitable trades - especially fast-moving and expiring options trades - requires diligent trade management.
And that means you have to have a plan in place for every trade you make.
If you don't know how manage your trades, don't worry, I'll be talking a lot about such strategies right here.
That's because I'm going to recommend a lot more trades like the winner we're sitting on now. And I want you to become the happiest - and wealthiest - trade-management expert you know.
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