38 lines
3.0 KiB
Plaintext
38 lines
3.0 KiB
Plaintext
362 Part Ill: Put Option Strategies
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less. Also, the position should be established for a credit, such that the money
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brought in from the sale of the near-term puts more than covers the cost of the
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longer-term put. If this is done and the near-term puts expire worthless, the strate
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gist will then own the longer-term put free, and large profits could result if the stock
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subsequently experiences a sizable downward movement.
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Example: If XYZ were at 55, and the January 50 put was at 1 ½ with the April 50 at
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2, one could establish a ratio put calendar spread by buying the April 50 and selling
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two January 50 puts. This is a credit position, because the sale of the two January 50
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puts would bring in $300 while the cost of the April 50 put is only $200. If the stock
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remains above 50 until January expiration, the January 50 puts will expire worthless
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and the April 50 put will be owned for free. In fact, even if the April 50 put should
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then expire worthless, the strategist will make a small profit on the overall position in
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the amount of his original credit - $100 - less commissions. However, after the
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Januarys have expired worthless, if XYZ should drop dramatically to 25 or 20, a very
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large profit would accrue on the April 50 put that is still owned.
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The risk in the position could be very large if the stock should drop well below
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50 before the January puts expire. For example, if XYZ fell to 30 prior to January
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expiration, one would have to pay $4,000 to buy back the January 50 puts and would
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receive only $2,000 from selling out his long April 50 put. This would represent a
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rather large loss. Of course, this type of tragedy can be avoided by taking appropri
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ate follow-up action. Nomwlly, one would close the position if the stock fell rrwre than
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8 to 10% below the striking price before the near-term puts expire.
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As with any type of ratio position, naked options are involved. This increases the
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collateral requirement for the position and also means that the strategist should allow
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enough collateral in order for the follow-up action point to be reached. In this exam
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ple, the initial requirement would be $750 (20% of $5,500, plus the $150 January
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premium, less the $500 by which the naked January 50 put is out-of-the-money).
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However, if the strategist decides that he will hold the position until XYZ falls to 46,
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he should allow $1,320 in collateral (20% of $4,600 plus the $400 in-the-money
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amount). Of course, the $100 credit, less commissions, generated by the initial posi
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tion can be applied against these collateral requirements.
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This strategy is a sensible one for the investor who is willing to accept the risk of
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writing a naked put. Since the position should be established with the stock above the
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striking price of the put options, there is a reasonable chance that the near-term puts
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will expire worthless. This means that some profit will be generated, and that the
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profit could be large if the stock should then experience a large downward move
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before the longer-term puts expire. One should take care, however, to limit his losses |