This article will explain to you all about the Bull Put spread options strategy. The Bull put spread consists of multiple legs. The strategy can earn you a limited profit. It is best to implement when traders expect a price rise of the underlying asset before the expiry of the contract.
In the bull put spread strategy, traders sell the put option and buy another put option at a lower price. They intend to take advantage of the price hike of underlying assets before the contracts expire.
Market outlook of Bull put spread option strategy:
Traders enter this strategy when they believe that the price of the underlying asset will close above the short put option contract on or anytime before the day of expiry. Bull put spreads are also called put credit spreads because traders get the credit by selling the put contracts upon entering the strategy.
This strategy has limited risk and limited profit. It is limited to the width spread minus the credit received. The breakeven point of the strategy is the short strike price minus the net premium received. The factors such as time decay and low implied volatility will prove helpful in making this strategy profitable. To receive more credit or premium, traders need to sell the underlying asset closer to the stock price.
How to enter the bull Put spread options strategy?
To enter the bull put spread trader needs to enter the order position sell-to-open a put option contract and buy-to-open a put option contract at a lower price, both the contracts having the same expiry dates. The above contract orders will result in a credit received. The purchase of the lower put option will reduce the collection of the total premium and will also define the risk of the position.
Let us understand it with an example:
Suppose a trader believes that the stock will be above ₹50 at the time of expiry. He could sell that option and buy another put option at ₹45; this process incurred ₹1 credit. In this case, if the stock closes above ₹50 at expiry, the max profit to the trader on this position will be ₹100. If the stock closes below ₹45 at expiry, the trader will incur a loss of ₹400.
Sell-to-open - ₹50 put option contract
Buy-to-open - ₹45 put option contract
Understanding the diagram of Bull put spread:
You can clearly see this position's risks and rewards in the diagram below. This strategy collects the credit while entering, and that will be the highest profit a trader can earn by implementing this strategy. The maximum risk is also limited to the spreads width minus the net credit received.
In this example, the breakeven point would be the short put option strike price minus the total premium received.
How to exit from the bull put option strategy?
To exit from the bull put option strategy, you can reverse the order position, buy-to-close (BTC) the short put option and sell-to-close (STC) the long put option contract.
If the traders purchase the spread at a lower price than it was sold, they will realize the profit on the position.
If the stock closes at a price above the short put option, then both options contracts will expire worthlessly, and the trader can keep the credit received.
If the stock closes at a price below the long put option at the time of expiry, both contracts will be offset, and the trader will have the maximum loss on the position, in this case, ₹400.
Additional notes on the strategy:
The time decay factor and theta work in favour of this strategy.
The decrease in implied volatility will be a good sign to profit from this strategy.
If the position seems challenging, the bear call credit spread can be added to the existing strategy making it the iron condor. It will minimize the overall risk.
Traders may roll the spread by buying the existing spread and selling another spread at the new expiry time.
So, we have seen what strategy you can use when you believe the underlying asset's price may fall before the contract expires. In case you have anything to ask about this strategy, kindly reach out to us at 8447445815 / 9909978783