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A Short Put is a bullish strategy involving the sale of an unprotected put. This strategy results in a net premium received (credit) upon initial order entry. Uses A short put allows investors to receive a premium by taking on the obligation to purchase the stock at the short put strike price. Traders who pursue this strategy expect the stock price to close on or above the short put strike price by expiration. Option traders that sell deeper in-the-money puts are more bullish on the underlying security, but have a lower probability of the put expiring worthless. Those that sell puts that are more out-of-the-money are slightly bullish and have a higher probability of the option expiring worthless, but do not receive as much premium. Risks This strategy is considered to have very high risk and limited reward. The maximum gain occurs when the stock price remains above the short put strike price until expiration. The maximum gain amount is limited to the net credit received. The maximum loss occurs when the stock price decreases to zero by expiration. Maximum loss is equal to the strike price of the put minus the premium received. Downward price movement is the largest risk associated with this strategy and should be the primary focus of the investor. Also, the option trader can be required to contribute more capital for option requirements. There is the potential that more capital could be lost than the original requirement to implement the strategy. Increasing implied volatility can have a negative impact on this strategy. Option traders electing to close the position before expiration could be impacted by rising implied volatility. Time decay generally has a favorable effect on this strategy. Options traders have assignment risk on this trade. Early assignment (American Style) is a possibility when the strike price is deep in-the-money, but most in-the-money puts will be assigned at expiration. When these risks are a concern, the best course of action may be to close the strategy prior to potential assignment.
Important Note: Options involve risk and are not suitable for all investors. For more information, please read the Characteristics and Risks of Standardized Options. |
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