Bull put spread long leg

[NineIron]

I've heard that the long leg of a vertical put spread is used to "define" my risk. Could someone explain that?

 

[WklyOptions]

I've heard that the long leg of a vertical put spread is used to "define" my risk. Could someone explain that?

Hi, NineIron,

Well, there are a couple of "variations" here. Suppose XYZ stock at $100:

1. Bullish Put Vertical Spread - also called a Bull Credit Put Spread (example):

Short (-1) Sep(20th) $90 Put Option
Long (+1) Sep(20th) $85 Put Option

You would be receiving a Net Credit to open this spread. It is (a) bullish in directional bias; (b) the long put is the "insurance leg" that is used to "protect" against losses if XYZ breaks below < $85 at expiry.

Net Credit = (credit rec'd on short $90 Put) less (debit on long $85 Put)

Max Risk = $5 less (Net Credit rec'd)

Max Return = Net Credit rec'd

2. Bearish Put Vertical Spread = also called a Bear Debit Put Spread:

Long (+1) Sep(20th) $90 Put Option
Short (-1) Sep(20th) $85 Put Option

You would pay a Net Debit to open this bearish put spread. In this case, the long put is the "profit-bearing leg" of the spread - not the "insurance leg" of the spread.

Net Debit = (Debit on long $90 Put) less (Credit rec'd on short $85 Put)

Max Risk = Net Debit

Max Return = $5 less (Net Debit)

Unfortunately in options trading, there are many terms and labels for the myriad of options-based spreads available to trade! :whistling

Hopefully, however, the above brief examples show the difference in the functional use of the long Put leg.

Regards,

WklyOptions

 

[NineIron]

Hi, NineIron,

Well, there are a couple of "variations" here. Suppose XYZ stock at $100:

1. Bullish Put Vertical Spread - also called a Bull Credit Put Spread (example):

Short (-1) Sep(20th) $90 Put Option
Long (+1) Sep(20th) $85 Put Option

You would be receiving a Net Credit to open this spread. It is (a) bullish in directional bias; (b) the long put is the "insurance leg" that is used to "protect" against losses if XYZ breaks below < $85 at expiry.

Net Credit = (credit rec'd on short $90 Put) less (debit on long $85 Put)

Max Risk = $5 less (Net Credit rec'd)

Max Return = Net Credit rec'd

2. Bearish Put Vertical Spread = also called a Bear Debit Put Spread:

Long (+1) Sep(20th) $90 Put Option
Short (-1) Sep(20th) $85 Put Option

You would pay a Net Debit to open this bearish put spread. In this case, the long put is the "profit-bearing leg" of the spread - not the "insurance leg" of the spread.

Net Debit = (Debit on long $90 Put) less (Credit rec'd on short $85 Put)

Max Risk = Net Debit

Max Return = $5 less (Net Debit)

Unfortunately in options trading, there are many terms and labels for the myriad of options-based spreads available to trade! :whistling

Hopefully, however, the above brief examples show the difference in the functional use of the long Put leg.

Regards,

WklyOptions

So, I end up buying the stock at the long leg strike?

 

[WklyOptions]

So, I end up buying the stock at the long leg strike?

NineIron,

I'm assuming you are net bullish and you have a short put at one strike, and a long put at a LOWER strike price - and you received a credit when you opened this bullish credit put spread.

Is this accurate? If not - my answer would not be appropriate. If accurate:

(1) Your short put leg at expiry = you are put stock at that strike price = you are now net long stock at that strike price.

(2) Then if stock < long put leg strike price at expiry = you would be assigned to be short stock at that strike price.

At expiry, (1) and (2) cancel each other's net positions/shares. You would incur a realized closed loss of the difference in strike price if stock price < short put leg at expiry.

However - total loss = (1)-(2) less (credit rec'd) from the original credit of that bull put spread.

Understand? You should not have any Net shares "differences" since both the long and short puts are In-The-Money and cancels each other effectively.

Regards,

WklyOptions

 

[NineIron]

NineIron,

I'm assuming you are net bullish and you have a short put at one strike, and a long put at a LOWER strike price - and you received a credit when you opened this bullish credit put spread.

Is this accurate? If not - my answer would not be appropriate. If accurate:

(1) Your short put leg at expiry = you are put stock at that strike price = you are now net long stock at that strike price.

(2) Then if stock < long put leg strike price at expiry = you would be assigned to be short stock at that strike price.

At expiry, (1) and (2) cancel each other's net positions/shares. You would incur a realized closed loss of the difference in strike price if stock price < short put leg at expiry.

However - total loss = (1)-(2) less (credit rec'd) from the original credit of that bull put spread.

Understand? You should not have any Net shares "differences" since both the long and short puts are In-The-Money and cancels each other effectively.

Regards,

WklyOptions

Yes, you assume correctly. I just need to wrap my head around it.
Thanx.

 

[WklyOptions]

Yes, you assume correctly. I just need to wrap my head around it.
Thanx.

Hi, NineIron,

You'll get it - just read, re-read, my example and explanations. Write it out on paper, use XYZ at $100.

Or use real examples from any stock.

Keep at it - you are very close to getting it! I can tell b/c you are asking the right questions.

Don't "let go" of your question - UNTIL you have clearly and repeatedly proven to yourself that you comprehend how a short bullish put credit spread works - its risk, its max profit, how it plays out at expiry, etc. THEN - use a different example short put spread - and work thru that also and repeatedly again. :!:

You WILL learn - and you WILL internalize the short put credit spread! Then you CAN learn to begin making profits from this new trading "tool". Ok? :whistling :idea:

Don't hesitate to post more questions if you have them - it will be beneficial to share our findings/answers with the T2W traders and community.

Regards,

WklyOptions

 

[NineIron]

Hi, NineIron,

You'll get it - just read, re-read, my example and explanations. Write it out on paper, use XYZ at $100.

Or use real examples from any stock.

Keep at it - you are very close to getting it! I can tell b/c you are asking the right questions.

Don't "let go" of your question - UNTIL you have clearly and repeatedly proven to yourself that you comprehend how a short bullish put credit spread works - its risk, its max profit, how it plays out at expiry, etc. THEN - use a different example short put spread - and work thru that also and repeatedly again. :!:

You WILL learn - and you WILL internalize the short put credit spread! Then you CAN learn to begin making profits from this new trading "tool". Ok? :whistling :idea:

Don't hesitate to post more questions if you have them - it will be beneficial to share our findings/answers with the T2W traders and community.

Regards,

WklyOptions

Thanx. I appreciate the input. I just got approval to do spreads so, I want to make sure that I "got it".