Accepting Exposure   • 217
Now a diagram when implied volatility is higher:
RED
Advanced Building Corp. (ABC)
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70
60
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40
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5/18/2012 5/20/2013 249 499 749 999
Date/Day Count
Stock Price
Obviously, there is much more of the put option’s range of exposure 
bounded by the BSM cone in the second, high-volatility scenario, and this 
means that the price received for accepting the same downside risk will be 
substantially higher when implied volatility is elevated.
The key to setting up a successful allocation of short puts is to find 
companies that have relatively low downside valuation risk but that also 
have a significant amount of perceived price risk (as seen by the market)—
even if this risk is only temporary in nature. Quarterly earnings seasons are 
nearly custom made for this purpose. Sell-side analysts (and the market 
in general) mainly use multiples of reported earnings to generate a target 
price for a stock. As such, a small shortfall in reported earnings as a result 
of a transitory and/or nonmaterial accounting technicality can cause sell-
side analysts and other market participants to bring down their short-term 
target price estimates sharply and can cause stock prices to drop sharply 
as well.
5
These times, when a high-quality company drops sharply as a re-
sult of perceived risk by other investors, are a wonderful time to replen-
ish a portfolio of short puts. If you time the tenors well, your short-put