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Bear Put Spread Option Strategy

Bear Put Spread Option Strategy

What is Bear Put Spread Option Strategy?

  • Bear Put Spread is a net debit strategy with limited risk to limited reward. Bear Put Spread is a moderate bearish strategy that is executed by buying a put and selling lower strike put to fund it and reduce the execution cost, it should not be executed when we have extreme bearish biases as profit is capped on the downside.

When to Execute?

  • Bear Put spread is executed when we have bullish outlook in Stock/ Index in near term. Instead of buying naked put with higher outflow, one sells a lower strike put to partially fund the outflow resulting in a hedged strategy. Identifying a clear down trend is essential for the strategy, specifically can be implemented on breakdown which helps to get the momentum, on the other hand risk is limited and will not hurt much if breakout fails to materialise. Ideal scenario to execute bear put spread is when we are expecting gradual fall in price till the sold strike price, then we can earn premium in buy put and we can have theta benefit in sold put option too.

What is the Trade?

  • Buy one lot (At-The-Money) ATM Put and Sell one lot Out-of-Money (OTM) Put. Both the Put should be of the same underlying and expiration. Breakeven for Bear Put Spread.Breakeven point = Buy Put Strike Price - net premium paid.

What will be maximum profit?

  • Maximum reward is limited to difference in strike less net outflow. Maximum Profit arises if the stock closes at or below the lower strike.

What will be your maximum loss?

  • Maximum risk is limited by the difference in cost of long and short call.

What are the advantages?

  • Helps to participate in a bearish stock with relatively low cost. Reduced risk, cost, and breakeven point for a medium- to long-bearish bullish trade as compared to buying a put alone. Capped upside (although still 100% of the outlay).

What are the disadvantages?

  • Capped profit if the stock closes below short Put. Identifying a clear area of Support and selection of strike becomes very important.

Example for Bull Call Spread

  • Nifty future price is 15500. A Bear Put Spread can be devised by adding one lot of 15500 PE At-the-Money (ATM) @200 and selling one lot of 15200 CE (ATM) @ 100 Net Premium Paid or Received = Rs. (-100) Maximum profit below 15200 i.e., 300-100 =200 i.e., difference between 15500-15200 = 300 – 100 (net premium paid) Maximum Loss = -100 (i.e., net premium paid)