With a bull put spread, investors can benefit from premium income by simultaneously selling a put at a higher exercise price and buying a put at a lower exercise price. The advantage of this option strategy over selling a simple put is that the maximum loss from buying a put is limited to the spread between the different strikes of the put short and put long. You can learn how to profit from this here.
Formation of the Bull Put Spread and effects in different market situations
The put short is hedged by a put long out of the money at a much lower strike. The premium to be paid for the put long is also much lower than the premium received above the put short with a higher strike price.
The effective premium income is therefore reduced, but still positive. The advantage of this “insurance” is the risk limited to the difference between the two exercise prices.
With a Bull Put Spread strategy, the investor benefits in the event of a rising or stagnating price because the sold put option is not exercised. If the price falls only very moderately, the investor can also still profit from the Bull Put Spread as long as the put option is not exercised, because the price for the buyer of the put has not yet moved into the profit zone.
Advantages
- Profit from premium income from the sale of a putt
- strongly limited risk of loss through the purchase of the Put long
Disadvantage
- Premium income is reduced by the option price to be paid for the put long
Example of a Bull Put Spread Strategy
It is assumed that one share has a current price of €50. An investor can now sell a put at an exercise price of €47, for example. In return he receives an option premium per share of 1.20 €. Related to 100 shares he can thus receive 120 €.
For hedging, he buys a put at an exercise price of €42. In return, an option price of €0.70 per share must be paid. For 100 shares, the amount to be paid is therefore €70. This leaves a total difference of €50 or €0.50 per share.
If the share price rises within the term of the option, moves on the spot or falls only very moderately, the buyer will not exercise his put option because he would make a loss. The investor does not need to buy the shares at a price of €47 per share and keeps the €50 from the option premium for 100 shares.
The risk only occurs if the share actually falls sharply. The risk limit runs however with the course of 42 € because here the security of the Put long seizes.
The loss then corresponds to the difference between the two exercise prices, less the still positive balance from the premium received for the put short. Related to 100 shares, this is 500 €, minus the 50 € remaining from the premium received for the put short. Compared to a “naked” put without hedging, this is an enormous advantage, because the risk of loss is not limited downwards.
Read my other articles about options:
- Bear Call Spread Options Strategy
- Bull Put Spread – Earn Money With Puts And Limit Risk
- Butterfly Spread Options Strategy
- Definition Of Option Price/Option Premium
- Earn Money With A Covered Call Options Strategy
- How to exercise Options
- How to use the Standard Deviation for Options Trading
- Iron Condor – Profit From Low Price Fluctuations
- Options Trading Tutorial for beginners
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- Protective Put – Hedging Of Equity Positions
- Simple Trading Strategies for Options
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- What is a Short Put in Options Trading?
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