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  • Bear Put Spread

Bear Put Spread

  • Posted by Trading Campus
  • Date June 7, 2017
  • Comments 104 comments

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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Bull Call Spread
June 7, 2017

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Bear Call Spread
June 10, 2017

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Company Summary

Bajaj Electricals Limited is engaged in engineering and projects; power distribution, illumination and consumer durables businesses.

It has a range of domestic and kitchen appliances comprising water heaters, room heaters, coolers, irons, mixers, induction cookers, toasters, kettles, microwave, rice cookers, gas stoves, non-electrical kitchen aids and pressure cookers.

It offers ceiling, table, pedestal, wall, fresh air and industrial fans, and lighting solutions, such as light sources, light emitting diode-based lighting products, domestic luminaires, torches and lanterns.

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The Company's business segments consist of

  1. Lighting;
  2. Consumer Durables;
  3. Engineering & Projects,

The Lighting segment includes lamps, tubes and luminaries.

The Consumer Durables segment includes appliances and fans.

The Engineering & Projects segment includes transmission line towers, telecommunications towers, highmast, poles and special projects.

The Others segment includes diecasting and wind energy.

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