37 lines
2.8 KiB
Plaintext
37 lines
2.8 KiB
Plaintext
264 Part Ill: Put Option Strategies
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use some of the proceeds to purchase the October 45 put. The general idea in this
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tactic is to pull one's initial investment out of the market and then to increase the
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number of option contracts held by buying the out-of-the-money option.
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Example: The trader would receive 6 points from the sale of the October 50 put. He
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should take 2 points of this amount and put it back into his pocket, thus covering his
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initial investment. Then he could buy 2 October 45 puts at 2 points each with the
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remaining portion of the proceeds from the sale. He has no risk at expiration with this
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strategy, since he has recovered his initial investment. Moreover, if the underlying
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stock should continue to fall rapidly, he could profit handsomely because he has
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increased the number of put contracts that he holds.
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The fourth choice that the put holder has is to create a spread by selling the
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October 45 put against the October 50 that he currently holds. This would create a
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bear spread, technically. This type of spread is described in more detail later. For the
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time being, it is sufficient to understand what happens to the trader's risks and
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rewards by creating this spread. The sale of the October 45 put brings in 2 points,
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which covers the initial 2-point purchase cost of the October 50 put. Thus, his "cost"
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for this spread is nothing; he has no risk, except for commissions. If the underlying
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stock should rise above 50 by expiration, all the puts would expire worthless. (A put
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expires worthless when the underlying stock is above the striking price at expiration.)
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This would represent the worst case; he would recover nothing from the spread. If
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the stock should be below 45 at expiration, he would realize the maximum potential
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of the spread, which is 5 points. That is, no matter how far XYZ is below 45 at expi
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ration, the October 50 put will be worth 5 points more than the October 45 put, and
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the spread could thus be liquidated for 5 points. His maximum profit potential in the
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spread situation is 5 points. This tactic would be the best one if the underlying stock
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stabilized near 45 until expiration.
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To analyze the fifth strategy that the put holder could use, it is necessary to
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introduce a call option into the picture.
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Example: With XYZ at 45, there is an October 45 call selling for 3 points. The put
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holder could buy this call in order to limit his risk and still retain the potential for
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large future profits. If the trader buys the call, he will have the following position:
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Long l October 50 put C b' d t 5 . t
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l O b 5 all - om me cos : porn s Long cto er 4 c
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The total combined cost of this put and call combination is 5 points - 2 points were
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originally paid for the put, and now 3 points have been paid for the call. No matter
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where the underlying stock is at expiration, this combination will be worth at least 5 |