The old saw that tells stock holders to "sell in May and go away" has been bandied about quite a bit lately. While there is some evidence that the market's performance during June through September tends to lag behind the fall/winter season of October to January, the fact is that stocks have averaged a gain, not a loss, of about 5.7% during the summer period. This suggests that blindly following this strategy turns the market into a random walk at best.

(Senior writer Rebecca Byrne's

recent article does a nice job dissecting the numbers, addressing some seasonal factors and pointing out certain fallacies of this overly simplistic piece of investment advice.)

Destruction Leads to Recreation?

Aside from the debatable evidence that selling in May is the best course of action, implementing the strategy essentially turns long-term investors into market timers. And certainly any strategy that requires the wholesale dumping and subsequent reconstruction of your portfolio will carry logistical impediments that will make it functionally impractical and potentially very costly.

As Rebecca suggests, perhaps one of the reasons this advice has become so prevalent is that many brokers simply want to be able to enjoy their summer recreation without the nuisance of having to actually monitor the market or let calls from nervous clients intrude on their quietude.

But don't get me wrong -- I am not a huge proponent of following a strict buy-and-hold approach to investing. Rather, I am a strong advocate of taking an active investment approach, with the belief that portfolio and position adjustments are a necessary part of a successful investment strategy. Some of the most basic kinds of position management come in the form of asset allocation, stop-loss orders and price targets. These all start as fairly static targets but can become more dynamic or mutable when market conditions change.

Option Strategies for Portfolio Stabilization

One of the most basic strategies for maintaining broad stock holdings and protecting your investment value is to strap a life vest around your portfolio in the form of index-based put options. While this, like any form of insurance, comes at a price equal to the premium paid and can drag down performance, it also provides the most comprehensive coverage in case of a disaster.

As an options trader who has been conditioned to keep his eye on the clock and its associated time decay on a wasting asset, I tend to steer away from buying puts for purely protection purposes. But with the implied volatilities and therefore the relative price on the options of many broad market products near eight-year lows, it seems like a reasonably good time to fork over a little protection money and the heck with theta (time decay).

This is especially true for someone with a large portfolio, and with their life savings potentially on the line. The implied volatility on the

Nasdaq-100 Trust

(QQQ) - Get Report

is currently just 20% -- its lowest level since it began trading some five years ago.

Keep in mind that the three key items to assessing how many puts to buy are: 1) how much related stock (or exposure to the sector) you have; 2) what percentage of a decline you anticipate that you wish to hedge; and 3) over what period of time.

Assume that you owned 1,000 shares of QQQ, or had a fairly tech-heavy portfolio, and you want to be protected should a 10% decline occur over the next four months. Working backward, this means you'd need to look at put options with a Sept. 17 expiration (that's the time you are supposed to return to buying stocks). With the QQQ currently trading at $36.50, a 10% decline would equate to a fall of $3.65 to $32.85. So let's look at the September $33 puts, which are currently trading at 75 cents each.

So, how many contracts do you need to buy? You need to consider that for the position to be fully hedged if the QQQ declines to $32.65, it would require the put option position to have a delta of negative 1, meaning that for every $1 decline in the QQQs, the put option's value will increase by $1 at that price level.

The delta, or hedge ratio, of a September $33 put when the underlying QQQ shares are $32.85 would be about negative 0.48 (as expiration approaches, specifically with less than 15 trading days remaining, the delta begins to decline). This means that for every 1,000 shares of QQQ, you'd need to buy about 20 September $33 put contracts to be fully protected if the QQQs should fall below $32.85 before the September expiration.

This equates to a cost of $1,500, or 4% of the current value of the 1,000-share QQQ position. This is a fairly high price to pay but it does provide peace of mind and still offers the opportunity for upside gains should the market rally during the summer months.

For a more detailed look at some of the costs and calculations involved in hedging a portfolio, please look at this

past article.

Claiming Your Gains

For stocks with substantial gains or high implied volatilities, I'd suggest using a

collar. A collar is a three-part position consisting of long stock, short calls and long puts that have different strike prices but the same expiration date. Depending upon the distance separating the strike prices, the collar will allow you to hold the long-stock position while establishing a minimum sale price (the put's strike price) and maintaining some additional upside profit potential (the call option's strike price). I think this approach could be most appropriate in biotech stocks that currently sport high implied volatilities and have racked up huge gains of late. For details on how implied volatility impacts the separation for a "no-cost collar," please look at this

past article.

Specific names include

OSIP Pharmaceuticals

(OSIP)

,

Sepracor

(SEPR)

and

MGI Pharmaceuticals

(MOGN)

. Or you could look at the

Biotech Holders

(BBH) - Get Report

options if you either own that exchange-traded fund or have an overweight exposure to the group.

Once again, as all the above-linked articles state, make sure you understand the potential tax implications or consult an accountant or securities attorney regarding your specific situation.

Steven Smith writes regularly for TheStreet.com. In keeping with TSC's editorial policy, he doesn't own or short individual stocks. He also doesn't invest in hedge funds or other private investment partnerships. He was a seatholding member of the Chicago Board of Trade (CBOT) and the Chicago Board Options Exchange (CBOE) from May 1989 to August 1995. During that six-year period, he traded multiple markets for his own personal account and acted as an executing broker for third-party accounts. He invites you to send your feedback to

steve.smith@thestreet.com.