An interesting trading opportunity is available now using the Macroshares Oil Tradeable Shares (UCR) , (DCR). These are two "linked" ETFs that trade off of the price of Nymex crude oil, but they are "joined at the hip". The total NAV each day for both UCR and DCR is around 40.10, but the NAV's move like a seesaw. The NAV for the Up shares, UCR, is approximately one third of the price of the "reference" Nymex crude oil contract which closed today at 110.33. The NAV for DCR is 40.10 minus the NAV for UCR. (The NAV of UCR slightly higher than one third of crude oil because of additional interest earned by the underlying trust.)
The market values generally trade at discounts or premiums away from NAV, but a market maker arbitrage keeps the sum of the two market prices near 40. These are the values at Thursday's close:
UCR NAV= 36.86 UCR Market= 31.67 Discount of -14.1%
DCR NAV= 3.24 DCR Market= 8.75 Premium of +170%
Sum of NAVs= 40.10 Sum of Market Prices= 40.42 Premium of +0.7%
The
reference contract for Nymex is currently the April contract which
closed at 110.33, but on Monday there is a contract roll and the
relevant contract will be May which closed at 109.17.
DCR has been
trading at a premium because it has certain features of a put option-
high leverage if crude oil goes a lot lower, but it can never fall
below zero. Future contract months for crude oil are lower which lifts
the DCR NAV whenever there is a contract roll.
But I believe UCR presents a good opportunity now because the Macroshares trust has a termination clause. If the Nymex crude oil reference price closes above 111 for three consecutive days, the trust will be terminated. After the termination condition is met, both UCR and DCR will continue trading until the next distribution date when the trust is liquidated.
Basically what this means is if the May Nymex crude oil contract settles above 111 for three straight days, the discount for UCR (and premium for DCR) will shrink quite rapidly. This would occur because the put "option" for DCR would be expiring at the next distribution date. (The distribution ex-dates are end of quarter (March 31, June 30).
Here are a few interesting wrinkles for UCR, DCR which are widely misunderstood:
1) What happens if crude oil trades above 120 after the termination date but before the distribution date? The payoff for UCR is capped at NAV=40.10, so you would not benefit further if crude oil went above 120 by the distribution date. Similarly DCR's NAV cannot go negative.
2) If crude oil trades above 120 before
the distribution date, the NAV value of UCR would be 40.10 and for DCR
would be zero. But DCR would still have some option value because crude
oil could drop back below 120 again before the distribution date.
So the premium over NAV for DCR would be infinite!
3) What is the risk in buying UCR now?
The main
risk is that crude oil drops sharply without the termination condition
being met. But there are ways to partially hedge this by shorting
something else- e.g. USO, OIL etc.
If you want to get all of the details, you should read the prospectus, but be prepared because it is over 200 pages.
Full Disclosure: I am long shares of UCR.
Related Articles
|
Hedge Fund Jobs
Job Seekers: Search jobs by category, get job alerts by email or live feed, apply online See full list of jobs »
Employers: See all recruitment options, get applications online or by email Post a job »
Trading Center
- Free E-Newsletters
- About Seeking Alpha
- About Us
- Contact Us
- What's New
- Readers Feedback
- Advertise With Us
- Contributors
- Contribute an Article
- Feature Your Book
- Our Contributors
- Anonymous Contributions
- Dispute an Article?
- Legal
- Terms of Use
- Privacy
- Copyright
This article has 1 comment:
- Mose
- 4 Comments
Mar 18 04:42 PMAlso we're in May futures now so oil has to rise 2.50 before monday and stay there for three days. I have the trade on so I'm betting yes too!