Poor Man’s Covered Put Option Strategy
What are the characteristics of this option strategy?
The Poor Man’s Covered Put Option Strategy is a simple options trading strategy that involves buying a deep-in-the-money put option of distant expiration and writing an out-of-money put option against it of near expiry. The strategy aims to bet on a bearish view of stock without selling actual stock and generate income from the premium collected for the option sold.
Is this a bullish, bearish or neutral strategy?
The Poor Man’s Covered Put Option Strategy is typically a bearish strategy. It is used when a trader has an opinion on the downside direction of the underlying asset. The strategy will either profit if the underlying asset falls or try to cover losses if it rises by selling out-of-the-money options.
Is this a beginner or an advanced option strategy?
This is a beginner to intermediate option strategy. The strategy requires a little technical knowledge and requires the trader to understand the risks associated with selling covered options.
In what situation will I use this strategy?
The Poor Man’s Covered Put Option Strategy should be used when expecting the underlying asset to make a slight downside move rather than a large directional move. This could be due to a lack of a one-direction downside move of the asset or when you prefer to take profits sooner rather than later.
Where does this strategy typically fall in the range of risk-reward and probability of profit?
This strategy typically falls in the low to moderate risk-reward and probability of profit range. The risk is limited by the fact that the investor is only selling one option and buying another as a cover, and the reward is limited by the fact that the investor is limiting the downside move by selling an option.
How is this strategy affected by the Greeks?
The Greeks, or delta, gamma, theta, vega, and rho, are the main factors that can affect the profitability of any option strategy. This strategy is affected by the theta and vega Greeks, which measure the option’s time decay and volatility, respectively. As the option’s time decay and volatility increase, the profitability of the strategy increases.
In what volatility regime (i.e., VIX level) would this strategy be optimal?
This strategy is most effective when the VIX index and volatility are low. This is because the lower volatility reduces the option premiums and makes it more likely that the option will expire worthless, thus allowing the investor to keep the premium.
How do I adjust this strategy when the trade goes against me? And how easy or difficult is this strategy to adjust?
Adjusting this strategy when the trade goes against you can be quite difficult. The investor has limited upside potential, so if the underlying security moves significantly against the position, there may be little that can be done to adjust the position. The most common option to adjust is to buy back the option or possibly buy a further out-of-the-money option to reduce the loss.
Where does this strategy typically fall in the range of commissions and fees?
This strategy typically falls in the low to moderate range of commissions and fees. The investor is selling one option and buying another, so the cost of commissions and fees is relatively less.
Is this a good option income strategy?
This can be a good option income strategy when used correctly. The investor must understand the risks and rewards associated with the strategy and manage those risks appropriately.
How do I know when to exit this strategy?
The investor should exit the trade when it is no longer suitable for their risk tolerance or when the underlying security moves significantly against the position.
How will market makers respond to this trade being opened?
Market makers typically do not have an opinion on this type of trade and will not be affected by the investor selling a single, uncovered put option.
What is an example (with calculations) of this strategy?
For example, suppose a trader wants to execute the Poor Man’s Covered Put Option Strategy on company MSFT trading at $272. In that case, they will first buy an in-the-money put option of MSFT with a strike price of $300 having an expiration date of 90 days at the market price of $30 and then sell a one-put option with a strike price of $250 with an expiration date of one month from now for a premium of $1.62 per share. The maximum profit for this strategy will be the premium collected (in this case, $162) plus any appreciation of the in-the-money to the strike price (in this case, $250), less any losses resulting from the premium paid and commissions. On the other hand, the maximum loss would occur if the underlying asset price rises above the strike price at expiration (in this case, $300).
MarketXLS
MarketXLS provides users with the tools and data to trade better and make smarter investing decisions. It provides tools for stock, option, and ETF traders to make informed trades in the market, as well as data for making better trading decisions. With the tools and data provided by MarketXLS, traders can research potential trades, analyze potential profits, and adjust positions when needed. This makes the Poor Man’s Covered Put option strategy easier to execute, monitor, and adjust.
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