Bull Put Spread

Nilesh Jain

26 May 2017

New Page 1

What is Bull Put Spread Option strategy?

A Bull Put Spread involves one short put with higher strike price and one long put with lower strike price of the same expiration date. A Bull Put Spread is initiated with flat to positive view in the underlying assets.

When to initiate Bull Put Spread

Bull Put Spread Option strategy is used when the option trader believes that the underlying assets will rise moderately or hold steady in the near term. It consists of two put options – short and long put. Short put’s main purpose is to generate income, whereas long put is bought to limit the downside risk.

How to Construct the Bull Put Spread?

Bull Put Spread is implemented by selling At-the-Money (ATM) Put option and simultaneously buying Out-the-Money (OTM) Put option of the same underlying security with the same expiry. Strike price can be customized as per the convenience of the trader.

Probability of making money

A Bull Put Spread has a higher probability of making money as compared to Bull Call Spread. The probability of making money is 67% because Bull Put Spread will be profitable even if the underlying assets holds steady or rise. While, Bull Call Spread has probability of only 33% because it will be profitable only when the underlying assets rise.

Strategy

Sell 1 ATM Put and Buy 1 OTM Put

Market Outlook

Neutral to Bullish

Motive

Earn income with limited risk

Breakeven at expiry

Strike Price of Short Put - Net Premium received

Risk

Difference between two strikes - premium received

Reward

Limited to premium received

Margin required

Yes

Let’s try to understand with an example:

Nifty Current spot price (Rs)

9300

Sell 1 ATM Put of strike price (Rs)

9300

Premium received (Rs)

105

Buy 1 OTM Put of strike price (Rs)

9200

Premium paid (Rs)

55

Break Even point (BEP)

9250

Lot Size

75

Net Premium Received (Rs)

50

Suppose Nifty is trading at Rs 9300. If Mr. A believes that price will rise above 9300 or hold steady on or before the expiry, so he enters Bull Put Spread by selling 9300 Put strike price at Rs 105 and simultaneously buying 9200 Put strike price at Rs 55. The net premium received to initiate this trade is Rs 50. Maximum profit from the above example would be Rs 3750 (50*75). It would only occur when the underlying assets expires at or above 9300. In this case, both long and short put options expire worthless and you can keep the net upfront credit received that is Rs 3750 in the above example. Maximum loss would also be limited if it breaches breakeven point on downside. However, loss would be limited to Rs 3750(50*75).

For the ease of understanding, we did not take in to account commission charges. Following is the payoff chart and payoff schedule assuming different scenarios of expiry.

The Payoff Schedule:

On Expiry Nifty closes at

Payoff from Put Sold 9300 (Rs)

Payoff from Put Bought 9200 (Rs)

Net Payoff (Rs)

8800

-395

345

-50

8900

-295

245

-50

9000

-195

145

-50

9100

-95

45

-50

9200

5

-55

-50

9250

55

-55

0

9300

105

-55

50

9400

105

-55

50

9500

105

-55

50

9600

105

-55

50

9700

105

-55

50


Payoff diagram

 


Impact of Options Greeks:

Delta: Delta estimates how much the option price will change as the stock price changes. The net Delta of Bull Put Spread would be positive, which indicates any downside movement would result in loss.

Vega: Bull Put Spread has a negative Vega. Therefore, one should initiate this strategy when the volatility is high and is expected to fall.

Theta: Time decay will benefit this strategy as ATM strike has higher Theta as compared to OTM strike.

Gamma: This strategy will have a short Gamma position, so any downside movement in the underline asset will have a negative impact on the strategy.

How to manage Risk?

A Bull Put Spread is exposed to limited risk; hence carrying overnight position is advisable.

Analysis of Bull Put Spread Options strategy:

A Bull Put Spread Options strategy is limited-risk, limited-reward strategy. This strategy is best to use when an investor has neutral to Bullish view on the underlying assets. The key benefit of this strategy is the probability of making money is higher as compared to Bull Call Spread.

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mutual-fund

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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Bull Put Spread

Nilesh Jain

26 May 2017

New Page 1

What is Bull Put Spread Option strategy?

A Bull Put Spread involves one short put with higher strike price and one long put with lower strike price of the same expiration date. A Bull Put Spread is initiated with flat to positive view in the underlying assets.

When to initiate Bull Put Spread

Bull Put Spread Option strategy is used when the option trader believes that the underlying assets will rise moderately or hold steady in the near term. It consists of two put options – short and long put. Short put’s main purpose is to generate income, whereas long put is bought to limit the downside risk.

How to Construct the Bull Put Spread?

Bull Put Spread is implemented by selling At-the-Money (ATM) Put option and simultaneously buying Out-the-Money (OTM) Put option of the same underlying security with the same expiry. Strike price can be customized as per the convenience of the trader.

Probability of making money

A Bull Put Spread has a higher probability of making money as compared to Bull Call Spread. The probability of making money is 67% because Bull Put Spread will be profitable even if the underlying assets holds steady or rise. While, Bull Call Spread has probability of only 33% because it will be profitable only when the underlying assets rise.

Strategy

Sell 1 ATM Put and Buy 1 OTM Put

Market Outlook

Neutral to Bullish

Motive

Earn income with limited risk

Breakeven at expiry

Strike Price of Short Put - Net Premium received

Risk

Difference between two strikes - premium received

Reward

Limited to premium received

Margin required

Yes

Let’s try to understand with an example:

Nifty Current spot price (Rs)

9300

Sell 1 ATM Put of strike price (Rs)

9300

Premium received (Rs)

105

Buy 1 OTM Put of strike price (Rs)

9200

Premium paid (Rs)

55

Break Even point (BEP)

9250

Lot Size

75

Net Premium Received (Rs)

50

Suppose Nifty is trading at Rs 9300. If Mr. A believes that price will rise above 9300 or hold steady on or before the expiry, so he enters Bull Put Spread by selling 9300 Put strike price at Rs 105 and simultaneously buying 9200 Put strike price at Rs 55. The net premium received to initiate this trade is Rs 50. Maximum profit from the above example would be Rs 3750 (50*75). It would only occur when the underlying assets expires at or above 9300. In this case, both long and short put options expire worthless and you can keep the net upfront credit received that is Rs 3750 in the above example. Maximum loss would also be limited if it breaches breakeven point on downside. However, loss would be limited to Rs 3750(50*75).

For the ease of understanding, we did not take in to account commission charges. Following is the payoff chart and payoff schedule assuming different scenarios of expiry.

The Payoff Schedule:

On Expiry Nifty closes at

Payoff from Put Sold 9300 (Rs)

Payoff from Put Bought 9200 (Rs)

Net Payoff (Rs)

8800

-395

345

-50

8900

-295

245

-50

9000

-195

145

-50

9100

-95

45

-50

9200

5

-55

-50

9250

55

-55

0

9300

105

-55

50

9400

105

-55

50

9500

105

-55

50

9600

105

-55

50

9700

105

-55

50


Payoff diagram

 


Impact of Options Greeks:

Delta: Delta estimates how much the option price will change as the stock price changes. The net Delta of Bull Put Spread would be positive, which indicates any downside movement would result in loss.

Vega: Bull Put Spread has a negative Vega. Therefore, one should initiate this strategy when the volatility is high and is expected to fall.

Theta: Time decay will benefit this strategy as ATM strike has higher Theta as compared to OTM strike.

Gamma: This strategy will have a short Gamma position, so any downside movement in the underline asset will have a negative impact on the strategy.

How to manage Risk?

A Bull Put Spread is exposed to limited risk; hence carrying overnight position is advisable.

Analysis of Bull Put Spread Options strategy:

A Bull Put Spread Options strategy is limited-risk, limited-reward strategy. This strategy is best to use when an investor has neutral to Bullish view on the underlying assets. The key benefit of this strategy is the probability of making money is higher as compared to Bull Call Spread.

Have Referral Code?