Bear Put Spread (Trading Plan)

Bear Put Spread

Moving Average Crossover

Overview:  A Bear Put spread involves purchasing an ITM Put option and selling an ATM Put with the same expiration date but a lower strike price.  The sale of the lower strike Put brings in premium to offset the cost of buying the higher strike Put.  The maximum profit is achieved when the underlying stock falls below the lower strike price.  Look for spreads that offer at least a 50% rate of return.

Strategy	Outlook	Strike Price	Risk
Buy a Put (ITM)	Bearish	Higher Strike Price	Net Debit Paid
Sell a Put (ATM)	Bearish	Lower Strike Price	Net Debit Paid

Step #1:  Identifying Stocks.  Use “FINVIZ.com” which will help you find quality stocks where the shorter 9-EMA recently crossed below the longer 18-EMA.

Step #2:  Review Charts.  Determine trend on weekly chart first, then look for trades on the daily chart only in that direction.  When the weekly trend is down, it allows you to trade only from the short side.

Step #3:  Set Interval.  Typically, I trade spreads that are $5.00 wide.  For stocks over $100.00, I may increase that to $10.00.  For lower-priced stocks and some ETFs, I may reduce my spread width to $2.00.

Gold Trust (GLD) $144.93                                       Days to Expiration:  46

BTO (1) Aug 11 149 P @ $5.45  Delta: 0.68         Breakeven:  $146.00

STO (1) Aug 11 144 P @ $2.45   Delta: 0.42        Maximum  Profit:  $200.00

Net Debit Paid:  $3.00  ($300.00)                          Return % of Risk:  66.7%

Step #4:  Strike Price (Long Position).  A good strategy is to buy an ITM (strike price > stock price) Put with at least 45 days or less until expiration.  It’s the one we’re using to make money.

Step #5:  Strike Price (Short Position).  A good strategy is to sell an ATM (strike price = stock price) Put with at least 45 days or less until expiration.  We are lowering our cost basis and thus limiting risk.

Step #6:  Net Debit.  The amount you paid for the long Put (the debit) minus what you received from the short Put (the credit).  Keep the net debit as low as possible to make the trade worthwhile.

Step #7:   Breakeven.  Make sure the breakeven is within the trading range of the underlying stock (Higher Strike - Net Debit Paid).  The trade makes money if the stock is below breakeven by expiration.

   

Step #8:  Maximum Profit.  The maximum profit for the trade is the differences in strikes minus net debit paid.  (Differences in Strikes – Net Debit Paid)  Occurs when the stock closes above short Call.

Step #9:  Return % of Risk.  Look for spreads that offer at least 50% or greater maximum return.  (Max Profit / Net Debit Paid)

Step #10:  Delta.  When a Put spread is bought, it is bearish because you are buying a Put with a larger delta and selling a smaller delta Put against it.  Both will increase in value as the stock goes down, but the long Put will increase faster—and this creates the spread that we need for a profit.

Step #11:  Exiting the Position.  Attempt to hold the position until expiration week.  Exit when the value of the trade has reached a (50%) rate of return.  Use a (50%) stop-loss for downside protection.

Exiting the Trade

To exit a Bear Put spread, you have to monitor the daily price movement of the underlying stock and the fluctuating option premiums.  Let’s explore what you can do to profit on a Bear Put spread if one of the following scenarios occurs.

If the underlying stock falls below the short strike ($144.00):  The short Put is assigned and you are obligated to purchase (100) shares of stock from the option holder at $144.00 a share.  By exercising the long Put, you can turn around and sell those shares at $149.00 a share and pocket the difference of $500.00.  By subtracting the cost of the trade ($300.00), the profit on the spread is $200.00—the maximum profit available.

If the underlying stock falls below the breakeven ($146.00), but not as low as the short strike ($144.00):  Offset the trade by selling a $149.00 Put at a profit and buying a $144.00 Put at a loss, pocketing a small profit.

If the underlying stock remains above the breakeven ($146.00), but below the long strike ($149.00):  Sell a $149.00 Put at a profit and buy a $144.00 Put at a loss, pocketing a small profit, or wait until expiration and sell the long Put at a slight profit to offset the trade’s net debit and let the short Put option expire worthless.

If the underlying stock rises above the long strike ($149.00):  Let the options expire worthless, or sell the $149.00 Put at expiration to mitigate some of the loss.