Naked
Put
Description
A
naked put (also called an uncovered put) is a put option where the option
writer does not have a short position in the underlying stock or other
instrument.
If
the market price of the underlying falls below the strike price of the option,
the holder can exercise the put option and force the writer to buy the
underlying at the strike price for cash, profiting from the difference between
the market price and the option's strike price. But if the market price remains
at or above the strike price for the duration of the option, the option will
expire worthless and the writer will profit from the premium charged to the
buyer for the privilege of receiving the option.
Naked
options are risky, but have the potential of being very rewarding. If the stock
price stays the same or slightly increases then the put option seller profits
and the option expires worthless. This type of strategy would allow an investor
the opportunity to buy stocks at a discount. However, if the stock moves down,
then the option premium increases, and it becomes more costly to close the put
position.
Market
Opinion
Bullish.
P/L
When
To Use
Use
this strategy for income, allowing you to earn income as the stock rises.
Example
XXXX
is trading at $27.35 on May 10, 2011.
Sell
the June 2011 $25.00 strike put for $1.05.
Benefit
If
the stock does rise as expected, then you gain income from that move.
Risk
vs. Reward
The
risk is put strike price minus the premium. The reward is the premium you
receive for the option.
Net
Upside
The
premium you receive for the put.
Net
Downside
Loss
potential is limited because the stock can not drop below zero.
Break
Even Point
Put
strike minus put premium.
Effect
Of Volatility
Effect
Of Time Decay
Positive.
Especially if you sell the put a month before expiration.
Alternatives
Before Expiration
To
stem a loss, if the stock drops below stop loss, close out the position by
buying back the puts.
Alternatives
After Expiration
At
expiration, the sold option is worthless and you keep the premium.
