Bear Put Spread

Bear Put Spread

Table of Contents

Basics Concepts – Bear Put Spread

Baer Put Spread

Description - Bear Put Spread

  • The Bear Put is a vertical spread strategy that creates a net debit in your account.
  • You buy a near At the money (ATM) Put and sell a Lower strike (typically OTM) Put with the same expiration.
  • The net effect of the strategy is to bring down the cost and breakeven on the trade compared to simply buying the long Put.
  • The Bear Put Spread requires a Bearish outlook because you will make a profit only when the stock price Falls.
  • if the stock falls below the lower (bought) strike, you make your maximum Profit ;
  • if the stock rises to the strike, you make your maximum Loss . In between these points, your breakeven point lies at the Higher strike less the net debit.
  • Buy lower strike Put.
  • Sell the same number of higher strike puts with the same expiration date
Description Bear Put Spread

Introduction to Bear Put Spread

Outlook

  • With a Bear Put, your outlook is bearish. You need a fall in the stock price.

Rationale

  • To execute a bearish trade for a capital gain while reducing your maximum risk.
  • The bought puts will have the effect of capping your downside, while the sold puts will reduce your cost basis, risk, and breakeven points.

Net Position

  • This is a net debit transaction because your bought puts will be more expensive than your sold puts, which are further out of the money.
  • Your maximum risk on the trade itself is limited to the net debit of the bought puts less the sold puts.

Effect of Time Decay

  • Time decay is helpful to this position when it is profitable and harmful when it is loss-making.

Time Period to Trade

  • It’s safest to trade this strategy on a longer-term basis

Breakeven [Higher strike – net debit]

Steps to Trading a Bear Put Spread

Steps In

  • Try to ensure that the trend is downward and identify a clear area of resistance.

Steps Out

  • Manage your position according to the rules defined in your Trading Plan.
  • If the stock rises above your stop loss, then sell the Long Put, and if you’re not permitted to trade Naked Puts, then unravel the entire position.
  • In any event, look to unravel the trade at least one month before expiration, either to capture your profit or
    to contain your losses.

Exiting the trade - Bear Put Spread

Exiting the Position

  • With this strategy, you can simply unravel the spread by buying back the puts you sold and selling the puts you bought in the first place.
  • Advanced traders may leg up and down as the underlying asset fluctuates up and down.

Mitigating a Loss

  • Unravel the trade as described previously.
  • Advanced traders may choose to only partially unravel the spread leg-by-leg.

Advantages and Disadvantages

Advantages

  • Reduced risk, cost, and breakeven point for a medium- to long-term bearish trade as compared to buying a put alone.
  • Capped downside (although still 100% of the outlay).
  • The farther away from expiration you are, the more downside protection you have in the event of the stock rising rapidly.

Disadvantages

  • The higher yields only arise if you select significantly higher strikes Uncapped upside if the stock falls.
  • Capped upside if the stock falls.