The Hidden Cost in Costless Put-Spread Collars: Rebalance Timing Luck

Prior research and empirical investment results demonstrate that strategy performance can be highly sensitive to rebalance schedules, an effect called rebalance timing luck (“RTL”). In this article, the authors extend the empirical analysis to option-based strategies. As a case study, they replicate a popular strategy—the self-financing, three-month put-spread collar—with three implementations that vary only in their rebalance schedule. They find that the annualized tracking error between any two implementations is in excess of 400 basis points. They also decompose the empirically derived rebalance timing luck for this strategy into its linear and non-linear components. Finally, they provide intuition for the driving causes of rebalance timing luck in option-based strategies.