# Bear Put Spread

**Underlying Strategy**

(Moderately Bearish)(Bearish with a downside target)

When a trader is moderately bearish on the instrument and has a specific target for the price.

**Methodology**

The trader buys a PE of a strike price at which she believes the stock shall close below at the time of expiry and sells a PE of a lower strike price at which she expects the price to hit a support level.

The ideology behind selling the put of a lower strike price is that the net premium paid is reduced substantially and hence net loss is limited.The net premium paid shall be the cost of Long PE – Cost of Short PE.

However, this strategy gives a limited maximum profit, even if the stock goes outright bearish.

**Risk Profile:**

This is a low-risk low-profit setup as the loss is limited but the max profit is also capped.The strategy has a pretty good risk-reward ratio in moderately bearish markets.

Margin requirements are high as you are selling a PE.

**Calculations:**

Max Potential Profit: (Long PE Strike-Short PE Strike)-Net premium paid

When: The stock crosses the lower strike price at the time of expiry.

Max Potential Loss: Net premium paid

When: The stock is above the higher strike price at the time of expiry.

Price of Breakeven at expiration:** Long CE strike-Net premium paid**

** Impact with passage of time**

The Long PE price has a negative time value while the short PE has a positive time value.

However, the short PE will have a slower time decay than the Long PE.

Hence the net effect of time decay is slightly negative.

**Illustration**

**For example, the trader is moderately bearish on Grasim. He believes that the stock would only make a small correction in the near term.**

**In order to catch the small fall in the price of the stock, he can buy a naked Put Option in Grasim , or buy an OTM PE and sell an OTM PE of a lower strike price.**

**This is the best strategy for a moderately bullish view on a stock.**

**The reason for selling the OTM PE is that we get a net premium by selling and hence the net premium paid for the whole strategy reduces a whole.**

**In this case his risk is considerably reduced, but his profit potential is also limited.**

**This strategy is the best for risk averse traders but requires a higher margin as the trader is shorting an option.**

GRASIM is currently trading at 1190. The trader decides to buy 1 lot PE of strike price 1160 of near month expiry, paying a premium of Rs. 16.45 per share., and then sells 1 lot CE of strike price 1120 per share receiving a premium of 10.7.

The net premium paid is then (16.45-10.7=5.75)*LotSize=5.75*750=Rs.4312.

This net premium paid is the maximum loss which the trader can incurr using this strategy.

Let us consider the black line viz. 1160 PE as Option A and the green line viz.

1120 PE as Option B.

Orange Line is the total profit for the strategy.

Option A turns profitable after Strike Price A-Premium (1160-16.45=1143.45) and Option B turns into a loss after (1120-10.7=1109).

At the time of expiry, if the stock price is above 1143, then the trader shall incurr a loss of the net premium paid, while if the stock price is below 1109, then the strategy shall see a fixed profit of Rs,. 25687

Now let us consider different scenarios for the strategy

Stock closes at Rs.1100.

Value of Option A=60

Value of Option B=20

Net profit in Option A= ( Value-Premium)*LotSize

=(60-16.45)*750

=Rs.32662

Net profit in Option B=(Premium-Value)*Lotsize

=(10.7-20)*750

=-Rs. 6975 Loss

Net Profit= 32662-6975=Rs.25687

Stock closes at Rs.1125.

Value of Option A= 35

Value of Option B=0

Net profit in Option A= ( Value-Premium)*LotSize

=(35-16.45)*750

=Rs.13912

Net profit in Option B=(Premium-Value)*Lotsize

=(10.7)*750

=Rs. 8025 Profit

Net Profit= 13912+8025=Rs.21937

*Stock closes at 1150*

Value of Option A= 10

Value of Option B=0

Net profit in Option A= ( Value-Premium)*LotSize

=(10-16.45)*750

=-Rs.13912

Net profit in Option B=(Premium-Value)*Lotsize

=(10.7)*750

=Rs. 8025

Net Profit= -13912+8025=-5887

*Stock closes at 1180*

Value of Option A=0

Value of Option B=0

Net profit in Option A= ( Value-Premium)*LotSize

=(0-16.45)*750

=-12337

Net profit in Option B=(Premium-Value)*Lotsize

=(10.7-0)*750

=Rs. 8025

Net Profit= 18510+2310=-Rs.4312

*Stock closes at 1200*

Value of Option A=0

Value of Option B=0

Net profit in Option A= ( Value-Premium)*LotSize

=(0-16.45)*750

=-12337

Net profit in Option B=(Premium-Value)*Lotsize

=(10.7-0)*750

=Rs. 8025

Net Profit= 18510+2310=-Rs.4312

Value of Spot at expiry |
Long Put Strike Price |
Net premium paid for A |
Intrinsic Value of Option A |
P/L for Long Put |
Short Put Strike Price |
Net premium received for B |
Intrinsic Value of Option B |
P/L for Short Put |
Net P/L |

1060 |
1160 |
16.45 |
100 |
83.55 |
1120 |
10.7 |
60 |
-49.3 |
34.25 |

1070 |
1160 |
16.45 |
90 |
73.55 |
1120 |
10.7 |
50 |
-39.3 |
34.25 |

1080 |
1160 |
16.45 |
80 |
63.55 |
1120 |
10.7 |
40 |
-29.3 |
34.25 |

1090 |
1160 |
16.45 |
70 |
53.55 |
1120 |
10.7 |
30 |
-19.3 |
34.25 |

1100 |
1160 |
16.45 |
60 |
43.55 |
1120 |
10.7 |
20 |
-9.3 |
34.25 |

1110 |
1160 |
16.45 |
50 |
33.55 |
1120 |
10.7 |
10 |
0.7 |
34.25 |

1120 |
1160 |
16.45 |
40 |
23.55 |
1120 |
10.7 |
0 |
10.7 |
34.25 |

1130 |
1160 |
16.45 |
30 |
13.55 |
1120 |
10.7 |
0 |
10.7 |
24.25 |

1140 |
1160 |
16.45 |
20 |
3.55 |
1120 |
10.7 |
0 |
10.7 |
14.25 |

1150 |
1160 |
16.45 |
10 |
-6.45 |
1120 |
10.7 |
0 |
10.7 |
4.25 |

1160 |
1160 |
16.45 |
0 |
-16.45 |
1120 |
10.7 |
0 |
10.7 |
-5.75 |

1170 |
1160 |
16.45 |
0 |
-16.45 |
1120 |
10.7 |
0 |
10.7 |
-5.75 |

1180 |
1160 |
16.45 |
0 |
-16.45 |
1120 |
10.7 |
0 |
10.7 |
-5.75 |

1190 |
1160 |
16.45 |
0 |
-16.45 |
1120 |
10.7 |
0 |
10.7 |
-5.75 |

1200 |
1160 |
16.45 |
0 |
-16.45 |
1120 |
10.7 |
0 |
10.7 |
-5.75 |

1210 |
1160 |
16.45 |
0 |
-16.45 |
1120 |
10.7 |
0 |
10.7 |
-5.75 |

1220 |
1160 |
16.45 |
0 |
-16.45 |
1120 |
10.7 |
0 |
10.7 |
-5.75 |

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