Vertical bear put

Article contents



At a glance



Setting up the bear strategy


  1. Buy one put option on the underlying stock.

  2. Sell one put option on the same underlying stock with the same expiry date.

Ideally you want the stock to be above the put option’s strike price at expiration.

Who should run this?


Ideal for all traders, from novice to advanced.

Margin requirements


Learn more about Questrade’s option margin requirements.

Strategy overview



A vertical put spread is an options strategy in which a trader buys and sells a short and long put option of the same underlying symbol simultaneously. The put options must have identical expiration dates but different strike prices.

This strategy may be used by a trader who wants to offset the cost of purchasing the long put option by selling a short put option. However, keep in mind, that this also limits the potential profit.

There are two types of vertical put spreads:


Spread type
Description
Bull Used by a trader who thinks the security’s price will rise before the put options expire.

To learn more, see Vertical bull put.
Bear Used by a trader who thinks the security’s price will fall before the put options expire.


Market outlook

  • Slightly bearish

Strategy benefits


  • Limits your total potential risk
  • Offsets the cost of the put option by selling a less expensive put option

Strategy downsides

  • Limits the maximum profit to the initial option premium paid if the underlying stock price rises above the short put option strike price.

Vertical bear put example



Scenario

Let’s say that ABC shares are trading at $28 in August. You believe that the price will fall in the near future so you purchase a September $30 long put option for $400 and sell a September $25 short put for $100. To enter into this strategy, your initial investment would be a debit of $300.  


This strategy means that you:


  • as the buyer of the put option, have the right to sell the shares at $30 before or at the expiration date


    and

  • as the seller of the put option, have the obligation to buy the shares at $25 before or at the expiration date, if the option is exercised by the buyer.

Possible results


  1. ABC shares drop to $24 at expiration, meaning both put options would expire in the money. The intrinsic value of each put would be as follows: $600 for the long put; $100 for the short put. This would give you a spread of $500; minus the initial debit of $300, this would give you a profit of $200.

  2. At expiration, if the shares closed at $37, both options would expire worthless. As a result, you would lose $300 as a result of entering into this strategy.


Profit and loss explained



Maximum profit

  • Maximum profit = strike price of long put option – strike of short put option – option premium paid + option premium received – commissions paid

Maximum loss


  • Maximum loss = option premium paid - option premium received – commissions paid

Break-even at expiration


  • Break-even point = strike price of long put – option premium paid

Sample calculations



  • Stock value at start of strategy: $28
  • To execute the strategy: Buy $30 long put option for $400, Sell $25 short put option for $100
  • Result: $300 net debit
Stock price at expiration Profit and loss calculations 
$24 $30 (strike price of long put option)
-$25 (strike price of short put option)
= [$5 x 1 (option contract) x 100 (number of shares) = $500]
-$300 (total option premium paid)
= $200 profit
$37 $4 (long put option premium paid)
- $1 (short put option premium received)
X 1 (option contract) x 100 (number of shares)
= $300 loss


Note
: commission fees are not included in the above calculations.


Payoff diagram






Creating a vertical bear put






Standard order details

Order detail

Description

Symbol lookup field

Click  and change the mode to , then enter the symbol you want to buy or sell.

Tip: if you don't know the symbol name, try entering the company name.

The default expiration date, strike price, and strategy appear. 



Modify the expiration date, strike price, and option strategy accordingly. For more information, see Elements of an option quote.

Action The buy or sell action is set for you when you select the strategy type.
Qty

Select a value using the arrows , or enter a value manually.

Note: by default, the quantity will be populated with the value set in your user preferences.
Order type Select the type of order you want to submit. When creating strategy orders, only Limit or Market order types are available. For more information, see Order types.

The limit order type requires you to fill in additional fields. Refer to the table section below for details.
Duration

Select a duration to specify how long the order should remain active. For more information, see Order durations.

Route Select a route or leave the selection at Auto to let the platform determine the best one. Canadian routes will be listed for Canadian symbols and U.S. routes will be listed for U.S symbols.
Sub-route

This field will be filtered according to the route selection. It indicates where you prefer the order to be executed. Leave the selection at Auto to let the platform determine the best route.

Note: sub-route selection is only available for Canadian symbols.
Account

Specify the account you want to use to submit an order. This field will display the account you have set as your default under user preferences, or the account you have selected in any of the linked windows. See Linking and unlinking windows for details.

Order type-specific details
Limit Enter your limit price:

  • To have the price fluctuate according to real-time data, click the lock   and select either Follow ask price  or Follow bid price .
  • To choose a custom price, select Do not follow .
Note: if real-time market data is not available, the limit price will be blank and the float limit icon will be unlocked.




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