by iceman5 » Mon Jul 23, 2007 8:50 am
Naked Put....
Here is an option trade I made on Friday. I sold 2 naked puts on the SP500 index with an Aug expiration and a stirke price of 154. Symbol is SYHTX
Options are very complictaed so let me give a quick basic lesson.
There are Call options and PUT options
When you BUY a CALL option, you are buying the option of buying 100 shares of stock at a predetermined price sometime in the future. In this case, I SOLD the PUT option. Ill get to that in a minute.
BUY a CALL option...gives you the option of BUYING a stock at a predetermined price at a later date.
BUY a PUT option....gives you the option of SELLING a stock at a predetermined price at a later date (even though you dont own the stock right now)
SELL a Call option....obliges you to SELL a stock at a predetermined price at a later date (even though you may not own the stock right now)
SELL a PUT option....obliges you to buy a stock at a predetermined price at a later date.
Now you dont necessarily have to go thru with the final act (of buying or selling the stock). You can buy or sell the option back before it expires and it closes out the trade at a profit or loss.
As I said this can be very complicated. I could never cover all aspects of option trading in one post. This is the ultimate of basic lessons.
Here is my trade in depth...
When the market closed Thur, Google and Micorsoft reported disappointing earnings. The market was going to open much lower on Friday.
The SP500 tracking stock (SPY) was at 155.03. It was going to open lower. No doubt in my mind. But it will also bounce back. Earnings news on a couple stocks cause people to over react and the market will shrug it off as long as a bunch of stocks dont follw with bad earnings. Thats not exepected at all. Earnings are very good this quarter.
The SP500 also doenst have alot of variance because its a basket of 500 stocks. A 1-3% swing in a month is normal. Not much more.
I entered an limit order to SELL 2 AUG 154 PUT options on SPY at 2.5
1) Im selling the put so I am obligated to buy 200 shares of SPY at 154 no matter how much its selling for at Aug expiration (which is the 3rd Fri of the month)
2) Each option contract is 100 shares of stock
3) The price 2.5 is really $250 so I get paid $500 up front if the trade goes thru
4) I say "if it goes thru" because the option is selling for 1.8 right now. I entered a limit order so the trade only goes thru if the price rises to 2.5. This seems strange but since Im SELLING the option, I want it to go up. It WILL go up because the market is going to open lower and PUTs go up when a stock goes down. I dont know if the option will go up THAT much though. Thats a 38.8% rise.
OK, if youre not confused yet.....
The market opened down as expected but not down very much. The option opened at 2.0 I could sell it at 2.0 and get paid $200 each but I held my ground. Within an hour the market sank more and my order went thru at 2.5. I instantly have $500 minus commission in my account. I dont have to put up any money to make this trade. They pay me $500.
Here is my profit potential.
On expiration (Aug 17th), if SPY is above 154 (which I expect it will be), I keep the full $500. If its bewlo 154, I either have to buy back the options or buy 200 shares of SPY at 154 even if SPY is trading at 150 or any other price. Since I took in 2.5 per contract, my breakeven point is 151.5 If SPY trades at 151.5 on expiration, I will break even. below that I lose money. Between 151.5 and 154, I make money. Over 154, I make the max profit.
I can buy back the option at any point if I want to close out the trade. If at expiration SPY is below 154, I can either buy it back or actually buy 200 shares of SPY but that would cost me over $30K. That may or may not be a good move, but thats to decide later.
The beauty of this trade is that the market has an upward bias. When I decided to make this trade SPY was at 155.03. It has to be below 151.5 in 4 weeks for me to lose money. So it has to drop 2.2% or more for me to lose money. The SP500 doesnt drop that much is a month very often. It SPY goes nowhere, I make money. if it goes up I make money. If it goes down a tad, I make money. I only lose if it drops alot. And in this case, it doesnt "take money to make money". I put up nothing in advance to make this trade (except for margin collatoral that I wasnt going to use anyway).
As I write this, SPY is at exactly 154.
Questions?
iceman5
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