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what's going on everybody Chris here
from Project option and in this options
trading strategies video we're going to
talk about the bearish strategy of
buying put options so let's go ahead and
get right into the strategy
characteristics of buying put options so
buying a put option is also known as a
long put position and this is a bearish
strategy that benefits from a decrease
in the stock price or an increase in
implied volatility now compared to
shorting shares of stock a long foot has
similar profit potential but
significantly less lost potential and
that's because when you short shares of
stock you have unlimited loss to the
upside but when you buy any option the
worst case scenario is that that option
expires worthless and in which case you
have limited lost potential so the
maximum profit potential of a long put
strategy is the put strike price minus
the premium you pay times 100 now the
maximum loss potential as we just talked
about is the premium paid times 100 so
you have limited loss potential now the
break-even price at expiration is the
puts strength price minus the premium
you pay so to make any money or just to
just make to just break even on the
strategy you need to stock price to
reach the put strike price minus the
amount that you paid for the put now
because of this the estimated
probability of profit for a long put
strategy is less than 50% and that's
because you're going to need the stock
price to decrease by a certain amount
just to break even and that's going to
give you a lower probability of profit
now the resulting position after
expiration depends on if the long foot
is in the money or out of the money if
the long foot is in the money at
expiration and you hold it through
expiration the resulting position will
be negative 100 shares per contract so
that's a short stock position of 100
shares per contract and you'll be
selling those shares at the puts strike
price now in regard to assignment risk
the long put strategy has no assignment
risk since you own the option and there
are no short option components to the
strategy now that you know the basic
characteristics of a Hmong foot strategy
let's go ahead and look at a basic
example and check out the expiration
profile graph so here we have a bunch of
different strike prices and the
corresponding put prices so at the time
of these prices let's say the stock
price is trading for a hundred and fifty
dollars and we want to initiate a
bearish position so we're going to buy
the 150-foot for a five dollar premium
so the stock price is at 150 we're going
to buy the put with the strike price of
$150 and we're going to pay a $5 premium
for that foot so let's go ahead and see
what the expiration risk profile graph
looks like for this position so as we
can see here all of our profit potential
is way on the left side which means the
stock price is decreasing and that that
profit potential increases steadily as
the stock price is decreasing now on the
right side we see that we have limited
loss potential equal to the amount we
paid for the option times 100 so since
we paid a $5 premium for this option the
most we can lose is the five dollar
premium times 100 since that's the
standard option contract multiplier
which gives us a maximum loss of $500 so
the maximum loss occurs when the stock
price is at or above the put strike
price at expiration because at those
prices the put will expire worthless so
if the put or if the stock price is at
$150 or above $150 we will lose $500 at
expiration because that puts going to
expire worthless now our breakeven price
is the put strike price of 150 minus the
$5 premium we paid for it which brings
us to a hundred and forty five dollars
so as we can see here if the stock price
is at a hundred and forty-five dollars
at expiration we're going to break even
and that's because at expiration and
option only carries intrinsic value now
at $145 a put with a strike price of 150
we'll have five dollars of intrinsic
value and since we paid five dollars for
that option we have no profits and no
losses on that position now let's say
the stock
price follows to 1:30 at expiration the
put with a strike price of 150 will be
worth $20 and since we paid $5.00 for it
we'll have a fifteen dollar profit on
that option now that $15 profit actually
corresponds to a real dollar amount of
$1500 so this expiration graph just
shows you the potential profits and
losses for this long put position at
expiration so now let's go ahead and
take a look at the option Greek
exposures of the long put position to
help you understand how the long put
position can profit before expiration so
let's take a look at the long puts Greek
exposures to help explain the strategy
so as we just discussed a long put is a
bearish strategy and that means it's
Delta is negative so put prices fall
when the stock price rises which is
detrimental to put buyers and when the
stock price Falls put prices increase
which is great for put buyers so the
position delta of a long put position is
negative we want the stock price to
decrease now the gamma of a long put
position is positive now that means when
the stock price decreases we're going to
subtract gamma from the options Delta
now since the Delta is already negative
if we're subtracting a we're subtracting
a positive number from a negative number
we're going to get an even more negative
number so all that the combination of
the negative Delta and positive gamma
tells us is that as the stock price
decreases the long puts position Delta
will grow more towards negative 100 so
more towards a short stock position of
100 shares and as the stock price
increases the position Delta will
approach zero so what this means is that
you want the stock price to decrease in
a very very quick manner and you want it
to continue to decrease because let's
say you start out with a position Delta
of negative 50 so stock price decreases
by $1 you're expected to profit by $50
however if the stock price decreases
enough and your position Delta grows
towards negative 100 so stock price
decreases another dollar you're expect
to the profit by $100 so as you can see
the further and further the stock price
decreases the more and more your
subsequent profits will be for
continuations of that downside move now
the theta of in long foot position is
negative and that's because the
extrinsic value of options decays away
as time passes which leads to decreasing
option prices now when you own an option
you do not want the option price to
decrease so negative theta tells you
that you're expected to lose money over
time when you just own the put option
and you're going to lose money if the
stock price does not move because the
extrinsic value of that put is going to
be withering away lastly a long foot
position has positive Vega now an
increase in implied volatility indicates
an increase in option prices which is
great for put buyers now a decrease in
Ivy indicates falling option prices
which is harmful to put buyers so when
you're when you own any option you are
long Vega which means you want option
prices to increase because that will
benefit your position so when we put all
of these things together we learn that a
long put position profits when the stock
price Falls or implied volatility Rises
enough to offset that negative theta so
time is your real enemy here and you
want you need a decrease in the stock
price or an increase in implied
volatility to occur fast enough and with
enough magnitude to offset that negative
theta alright so now that you know the
theory behind the long foot position
let's go ahead and take a look at some
real trade examples to show you how a
long put might perform as the stock
price is changing through time so the
first example we're going to look at is
where a trader buys and at the money put
so at the money put is where the strike
price is right by the current stock
price upon entering the trade so here's
the setup
the initial stock price is seventy seven
dollars and 21 cents initial implied
volatility is 37 percent the foot strike
we're going to look at buying is the
seventy seven in the half put expiring
in seventy four days now we're going to
pay a four dollar and ninety five cents
premium for this put which brings our
breakeven price to seventy seven and a
half
to put strike price less the 495 premium
we paid which brings us to a break-even
price of 72 dollars and 55 cents now the
maximum profit potential is 70 to 55
times 100 which is seven thousand two
hundred and fifty-five dollars now this
comes from the fact that if the stock
price goes to zero that seventy seven
and a half foot will be worth seventy
seven and a half dollars and since we
paid 495 for it our net profit will be
72 55 now 72 55 times 100 is seven
thousand two hundred and fifty-five
dollars so that maximum profit potential
is only realized if the stock price goes
to zero which is extremely unlikely now
the maximum loss potential is the amount
we paid for the option which is 495
times 100 which is four hundred and
ninety five dollars so let's go ahead
and take a look at how this position
performed over time so in this chart and
the top we're looking at the changes in
stock price we're looking at the put
strike price which is the dark dashed
line and we're looking at the puts
break-even price and we're also seeing
any intrinsic value that that put has
because the intrinsic value indicates
how much the option will be worth at
expiration
so more green on that chart is good for
put buyers so as we can see here the
stock price starts around seventy seven
and a half dollars and it falls a little
bit but then kind of just meanders
around that strike price now between 74
days to expiration and thirty days to
expiration we can see that this long
foot position actually has losses
because the long foot itself is decaying
in value now that is described by
negative theta as we talked about as
time passes and the stock price is not
moving and implied volatility is not
changing the option will lose value
because it's extrinsic value is decaying
away so the loss on this long foot
position between 74 days and 30 days to
expiration can be attributed to theta 2
K now between 30 days to expiration and
zero days to expiration we can see that
the stock price actually rallies to a
price above the long foot strike price
which case there is no more intrinsic
value for the put so in other words if
the stock price remains above the strike
price the put will expire worthless at
expiration now as we can see the stock
price in this example is above eighty
two and a half dollars at expiration
which means that seventy seven and a
half put is completely out of the money
and as we can see on the bottom part of
the graph the puts price at expiration
is zero dollars so if we were to buy
this put option and hold it to
expiration we would have lost four
hundred and ninety five dollars per put
contract
alright so example number two we're
going to buy an out of the money put
this time which is a little bit of a
lower probability trade because when you
buy an out of the money put if the stock
price doesn't decrease significantly
that puts going to expire out of the
money so an out of the money put
purchase is a very aggressive trade
because you need a big stock price move
to profit so let's go ahead and see what
happens here so here's the set up the
initial stock price is 103 forty initial
implied volatility is twenty six percent
the foot strike price in expiration is
the ninety eight foot expiring in thirty
nine days and the premium we're going to
pay for this foot is one dollar and
forty nine cents which brings our
breakeven price to the put strike price
of ninety eight dollars less the premium
paid of one forty nine which comes up to
ninety six fifty one so our maximum
profit potential is ninety six 51 times
100 or nine thousand six hundred and
fifty one dollars if the stock price
goes to zero in the next 39 days now the
maximum velocity is the amount we paid
for the option times 100 which in this
case is one hundred and forty nine
dollars so let's go ahead and see what
happens to this foot position over time
alright so again in the top part of the
graph we're looking at the changes in
the stock price to put break-even price
the put strike price and any intrinsic
value the put might have in the bottom
part of the graph we're looking at the
initial purchase price of the put and
we're looking at the actual put price
through time and any corresponding
profits or losses for the put buyer so
in this case we can see that the stock
price starts around 103 40 and actually
in the first couple days there drops to
around $98 so that's our put strike
price now while the put didn't have any
intrinsic value at that point we can see
that the puts the puts price actually
increased from a dollar and 49 cents
to right around three dollars as the put
air as the stock price was decreasing
towards to put strike price so this just
shows you that you actually don't have
to wait until expiration to realize any
profits as you can always just sell the
put in the open market you know before
it expires so let's say you bought this
put for a dollar and 49 cents with 39
days to go and with 31 days to go you
wanted to sell the option for three
dollars well you could sell the option
for three dollars and you would lock in
a profit of 151 dollars per contract so
that would be the three dollars you sold
it for - the 149 you paid for it times
100 which gives you one hundred and
fifty one dollars now let's say you
didn't sell it and you just kept holding
on to it so as you can see the stock
price didn't actually get below the foot
strike price until about 12 or 13 days
to expiration and that was short-lived
and the option actually expired out of
the money at expiration so this example
just shows that if you bought this put
for a dollar and 49 cents since the
stock price was above the foot strike
price and break-even price at expiration
this put actually expired worthless and
you would have lost the entire premium
you paid for it so let's go ahead and
look at another example
all right in the final example we're
going to look at buying an in the money
put now here is the setup
so the initial stock price is two fifty
four fifty one initial implied
volatility is thirty seven percent and
we're going to look at buying the three
hundred foot that expires in sixty three
days so this isn't in the money put
because the strike price that we're
buying is significantly above the stock
price so the put purchase price is fifty
two dollars and seventy cents so we're
paying quite a lot for this option but
that's because it is in the money and
most of its value is intrinsic so this
brings our breakeven price to the put
strike price of three hundred less the
premium paid of fifty to seventy which
comes out to two forty seven thirty now
the maximum profit potential on this
trade is two forty seven thirty times
100 which is twenty four thousand seven
hundred and thirty dollars which only
happens if the stock price goes to zero
in the next sixty three days now the
maximum loss potential is the amount we
paid for it times 100 which comes out to
five thousand two hundred and seventy
dollars in this case so like I said
we're paying for a lot of intrinsic
value here which means we're paying a
high premium for the put so our loss
potential is pretty high here but at the
same time if the stock price remains at
its current level that puts going to be
worth around forty five dollars because
that's the amount of intrinsic value it
has so the stock price doesn't move
we're not going to lose the entire fifty
two hundred dollars because this option
does have intrinsic value at the time of
putting it on now let's go ahead and see
if that changes alright so in the top
part of the graph we're looking at the
changes in the stock price relative to
the puts break-even the strike price and
the amount of intrinsic value it has so
as I said before this put is in the
money which means it starts with
intrinsic value and that explains the
expensive premium we paid for it right
off the bat now on the bottom part of
the graph we're looking at the changes
in the puts price through time as the
stock price is changing so what I want
you to pay attention to is between 63
and 49 days to expiration the stock
price didn't really decrease that much
or - it was actually very flat and over
that same
period the put price did not decrease
that much now that can be explained by
the fact that most of this puts value is
intrinsic which does not decay away as
time passes so one of the benefits of
buying it in the money put is that
you're paying mostly for real value or
intrinsic value which does not decay
away as time passes now as we can see
the stock price actually decreased from
around $250 to around $200 in which case
the 300-foot rose in value from around
$52 to nearly $100 so this put actually
doubled in value because the stock price
fell more than $50 from the entry price
so at expiration this stock price was
below the break-even price of 247 30 and
overall the position was profitable all
right so that pretty much wraps up what
you need to know about buying put
options so let's go ahead and recap the
main concepts discussed in this video so
buying puts is a strategy used by
traders who have a strong bearish
outlook for a stock as the trader must
correctly time the fall in the stock's
price otherwise you're going to lose
money from theta decay now buying a put
has limited lost potential and
significant profit potential but also a
lower probability of profit as a result
of that relationship a long put position
benefits from decreases in the stock
price or increases in implied volatility
but loses money from the decay of
extrinsic value as time passes so as we
discussed before the stock price must
fall or implied volatility must increase
enough to offset the losses from time to
gain so you have time working against
you and you need a directional movement
or volatility movement in your favour to
offset those losses from time to gain
now it's a closed a long put position
before expiration you can simply sell
the put at its current price to lock in
profits or losses so we did go over that
in one of the examples before and lastly
if a trader holds an in the money long
put through expiration the resulting
position will be negative 100 shares of
stock per put contract so if you hold an
in the money put through expiration
you're going to short a hundred shares
of stock at the strike price of the put
that you
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