In response to a recent article I wrote on the Gold Trust ETF (GLD) some readers have asked my thoughts on gold miners. While my last article was more of a bullish thesis on gold from a fundamental perspective and offered a simple strategy of playing gold by buying GLD, this article on the Market Vectors Gold Miners ETF (GDX) will offer a more complicated strategy. The reason for this has to do with the leverage of GDX:

During this gold bear market, GDX has significantly underperformed GLD, making the miner ETF a riskier buy-and-hold. Yet when gold spikes, GDX spikes more quickly:

GDX is more responsive to changes in the price of gold, making it more apt for a high risk, high reward options strategy. Why options? Because the initial investment is considerably cheaper than outright buying the ETF.

That said, if you want a safer strategy and are willing to put down considerable amounts of cash, just go with buying GLD. For those of us who believe that gold will rally and wish to maximize our profits, options on GDX make for a superior strategy. In the following strategy on GDX, I will outline an options play that is both 33% cheaper than the outright purchase of calls and immune to time decay.

A Reverse Collar Play on GDX

First, note that this play is only for a speculative position on GDX. The play includes the selling of puts, which can expose you to considerable risk. However, if we know the risk beforehand, we can think of the max risk as the initial investment and the price paid as the “down payment” for the position.

The example reverse collar below, for instance, has a “price” of $1,757.90 with a “down payment” of $108. Only if GDX drops significantly will you have to pay even a portion of the price; thus, the risk is actually smaller than it seems. Still, this mindset can help you limit losses.

Why and when would you open the options strategy above? This strategy is best for when you believe a stock or ETF will rally quickly. The rally need not be sustained for this strategy to pay off; instead, you can take your profit after the rally and then reopen the strategy continually on each dip in a longer bullish position.