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Bull Put Spread
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| Risk: |
Limited |
| Reward: |
Limited |
| The Trade: |
Sell an out-of-the-money put and buy an even further out of the money put. Since a put with a higher strike price is sold, the trade is initiated for a credit. |
ABC Stock trading at £5.00
Sell 1 Sep £4.50 put (B), buy 1 Sep £4.00 put (A) (see pay-off diagram below)
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| When to use: |
Similar to selling a put naked but your potential loss is limited via the purchase of a put with a lower strike price. Also, because of the protection it requires much less margin. This is a good trade when you might not know where the market is going, but feel that it's unlikely to fall drastically. For example, you are neutral to slightly bullish/bearish. |
| Volatility expectation: |
Neutral |
| Profit: |
Limited to the difference between the two strikes plus net premium credit. Maximum profit occurs where underlying rises to the level of the higher strike or above. |
| Loss: |
Maximum loss occurs where the underlying falls to the level of the lower strike or below |
| Breakeven: |
Reached when the underlying is below strike the first strike by the same amount as the net credit of establishing the position. |
| Time decay: |
Time decay will help, you are selling time. |
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Trading ideas and tactics:
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- Look to initiate in 'dips' in a strong bull market or at the lower end of trading ranges
- A good strike to sell is the at-the-money put or just outside-the-money, gives you greater time value
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