What Is A Bear Put Spread Options Trading Strategy?

Nilesh Jain

21 Mar 2017

A Bear Put Spread strategy involves two put options with different strike prices but the same expiration date. Bear Put Spread is also considered as a cheaper alternative to long put because it involves selling of the put option to offset some of the cost of buying puts.

When To Initiate A Bear Put Spread Options Trading?

A Bear Put Spread strategy is used when the option trader thinks that the underlying assets will fall moderately in the near term. This strategy is basically used to reduce the upfront costs of premium, so that less investment of premium is required and it can also reduce the affect of time decay. Even beginners can apply this strategy when they expect security to fall moderately in near the term.

How To Construct The Bear Put Spread?

Buy 1 ITM/ATM Put

Sell 1 OTM Put

Bear Put Spread is implemented by buying In-the-Money or At-the-Money put option and simultaneously selling Out-The-Money put option of the same underlying security with the same expiry.

Strategy Buy 1 ITM/ATM put and Sell 1 OTM put
Market Outlook Moderately Bearish
Breakeven at expiry Strike price of buy put - Net Premium Paid
Risk Limited to Net premium paid
Reward Limited
Margin required Yes

Let’s try to understand Bear Put Spread Options Trading with an example:

Nifty current market price Rs. 8100
Buy ATM Put (Strike Price) Rs 8100
Premium Paid (per share) Rs 60
Sell OTM Put (Strike Price) Rs 7900
Premium Received Rs 20
Net Premium Paid Rs 40
Break Even Point (BEP) Rs 8060
Lot Size (in units) 75

Suppose Nifty is trading at Rs 8100. If you believe that price will fall to Rs 7900 on or before the expiry, then you can buy At-the-Money put option contract with a strike price of Rs 8100, which is trading at Rs 60 and simultaneously sell Out-the-Money put option contract with a strike price of Rs 7900, which is trading at Rs 20. In this case, the contract covers 75 shares. So, you paid Rs 60 per share to purchase single put and simultaneously received Rs 20 by selling Rs 7900 put option. So, the overall net premium paid by you would be Rs 40.

So, as expected, if Nifty falls to Rs 7900 on or before option expiration date, then you can square off your position in the open market for Rs 160 by exiting from both legs of the trade. As each option contract covers 75 shares, the total amount you will receive is Rs 15,000 (200*75). Since, you had paid Rs 3,000 (40*75) to purchase the put option, your net profit for the entire trade is, therefore Rs 12,000 (15000-3000). For the ease of understanding, we did not take in to account commission charges.

Following is the payoff schedule assuming different scenarios of expiry.

The Payoff Schedule:

On Expiry NIFTY closes at Net Payoff from Put Buy (Rs) Net Payoff from Put Sold (Rs) Net Payoff (Rs)
7500 540 -380 160
7600 440 -280 160
7700 340 -180 160
7800 240 -80 160
7900 140 20 160
8000 40 20 60
8100 -60 20 -40
8200 -60 20 -40
8300 -60 20 -40
8400 -60 20 -40
8500 -60 20 -40
8600 -60 20 -40
8700 -60 20 -40

Bear Put Spread’s Payoff Chart:

The overall Delta of the bear put position will be negative, which indicates premiums will go up if the markets go down. The Gamma of the overall position would be positive. It is a long Vega strategy, which means if implied volatility increases; it will have a positive impact on the return, because of the high Vega of At-the-Money options. Theta of the position would be negative.

Analysis of Bear Put Spread strategy:

A Bear Put Spread strategy is best to use when an investor is moderately bearish because he or she will make the maximum profit only when the stock price falls to the lower (sold) strike. Also, your losses are limited if price increases unexpectedly higher.

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Why to Choose Mutual Funds Instead of Directly Investing Into Equities?

Whether to invest in equities or mutual funds is a question that has plagued every investor. As someone who needs the best value for his/her investment should you invest in equity directly or via mutual funds?

Let’s start by first understanding what these two terms ‘equities’ and ‘mutual funds’ stand for-

Equities- Equities generally represent ownership of a company. If you own any equity in a company, you are a part owner of the said company (depending on how much equity you own).

Mutual Funds – It is an investment scheme which is professionally managed by an asset management company. It pools together the resources of a group of people and invests their money in equities, debentures, bonds and other securities.

Why choose mutual funds over equities?

For people who’ve never invested in either stocks or mutual funds, it is hard to know which is better and where to start. Broadly speaking, if you are a novice investor, mutual funds are not only less risky but also way easier to manage. Here are some ways in which investing in mutual funds is beneficial as opposed to investing in equities -

Diversification

Mutual funds provide more diversification as compared to an individual equity stock. When you invest in equity, you are investing in a single company which has its inherent risk. For example, if you invest Rs.20,000 in buying equities of one company, you could face a total loss if that particular company performs poorly in the market.  

If you invest the same amount in mutual funds, it will be invested in different kinds of stocks and financial instruments, high-risk and low-risk both, so you might not face total loss even if one company does poorly.

Scale of Investment and Lower Costs

For an individual investor buying and selling stocks is a difficult task due to its high price. Thus, any gains made from stock appreciation are nullified if the overall trading costs are considered. Comparatively with mutual funds, as the money is pooled from a large number of investors, the cost per individual is lowered.  

Another advantage of mutual funds is that you don’t need to invest large sums of money. Buying equities for a profitable venture needs huge amounts of money, a minimum of few lakhs. With mutual funds, you can start with Rs.1000 and earn profits on that as well.

Convenience

Keeping an eye on the markets everyday is a time-consuming business, especially if you are investing as a side gig. There are people who spend their lives studying the market and still end up sustaining heavy losses. Though investing in mutual funds does not guarantee high returns, it is stress-free and needs less work as compared to investing in equities.

To sum it up

It is important to remember that mutual funds have their own disadvantages as well. Thus, as with any financial decision, educating yourself and understanding the suitability of all the available options is the ideal way to invest. 


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What Is A Bear Put Spread Options Trading Strategy?

Nilesh Jain

21 Mar 2017

A Bear Put Spread strategy involves two put options with different strike prices but the same expiration date. Bear Put Spread is also considered as a cheaper alternative to long put because it involves selling of the put option to offset some of the cost of buying puts.

When To Initiate A Bear Put Spread Options Trading?

A Bear Put Spread strategy is used when the option trader thinks that the underlying assets will fall moderately in the near term. This strategy is basically used to reduce the upfront costs of premium, so that less investment of premium is required and it can also reduce the affect of time decay. Even beginners can apply this strategy when they expect security to fall moderately in near the term.

How To Construct The Bear Put Spread?

Buy 1 ITM/ATM Put

Sell 1 OTM Put

Bear Put Spread is implemented by buying In-the-Money or At-the-Money put option and simultaneously selling Out-The-Money put option of the same underlying security with the same expiry.

Strategy Buy 1 ITM/ATM put and Sell 1 OTM put
Market Outlook Moderately Bearish
Breakeven at expiry Strike price of buy put - Net Premium Paid
Risk Limited to Net premium paid
Reward Limited
Margin required Yes

Let’s try to understand Bear Put Spread Options Trading with an example:

Nifty current market price Rs. 8100
Buy ATM Put (Strike Price) Rs 8100
Premium Paid (per share) Rs 60
Sell OTM Put (Strike Price) Rs 7900
Premium Received Rs 20
Net Premium Paid Rs 40
Break Even Point (BEP) Rs 8060
Lot Size (in units) 75

Suppose Nifty is trading at Rs 8100. If you believe that price will fall to Rs 7900 on or before the expiry, then you can buy At-the-Money put option contract with a strike price of Rs 8100, which is trading at Rs 60 and simultaneously sell Out-the-Money put option contract with a strike price of Rs 7900, which is trading at Rs 20. In this case, the contract covers 75 shares. So, you paid Rs 60 per share to purchase single put and simultaneously received Rs 20 by selling Rs 7900 put option. So, the overall net premium paid by you would be Rs 40.

So, as expected, if Nifty falls to Rs 7900 on or before option expiration date, then you can square off your position in the open market for Rs 160 by exiting from both legs of the trade. As each option contract covers 75 shares, the total amount you will receive is Rs 15,000 (200*75). Since, you had paid Rs 3,000 (40*75) to purchase the put option, your net profit for the entire trade is, therefore Rs 12,000 (15000-3000). For the ease of understanding, we did not take in to account commission charges.

Following is the payoff schedule assuming different scenarios of expiry.

The Payoff Schedule:

On Expiry NIFTY closes at Net Payoff from Put Buy (Rs) Net Payoff from Put Sold (Rs) Net Payoff (Rs)
7500 540 -380 160
7600 440 -280 160
7700 340 -180 160
7800 240 -80 160
7900 140 20 160
8000 40 20 60
8100 -60 20 -40
8200 -60 20 -40
8300 -60 20 -40
8400 -60 20 -40
8500 -60 20 -40
8600 -60 20 -40
8700 -60 20 -40

Bear Put Spread’s Payoff Chart:

The overall Delta of the bear put position will be negative, which indicates premiums will go up if the markets go down. The Gamma of the overall position would be positive. It is a long Vega strategy, which means if implied volatility increases; it will have a positive impact on the return, because of the high Vega of At-the-Money options. Theta of the position would be negative.

Analysis of Bear Put Spread strategy:

A Bear Put Spread strategy is best to use when an investor is moderately bearish because he or she will make the maximum profit only when the stock price falls to the lower (sold) strike. Also, your losses are limited if price increases unexpectedly higher.

Have Referral Code?