Replies to post #3 on Option Education

[leemalone2k3]

Exiting a Bear Put Spread early is appropriate under the right conditions.
Exiting early can prevent you from taking the Max loss
Lets say the stock drops slightly then rises back above the breakeven price of 68.54
with no signs of resuming the downtrend, it is a good idea to exit early
Stock falls to $66.00 during the next few weeks then climbs up too 69.00 with one week till expiration
The short put (sell) would have lost some of it's valuue due to time melting away
The long (buy) put will have added some intrinsic value and will most likely still have some time value left
You buy back the short put and sell the Long put to exit the trade

69.00 is above the breakeven price of 68.45
You sell the 70 put for +$1.00
And you buy back the 65 put for -$0.05
Your net loss would be -$0.50
Our intial net debit was -1.55
-1.55 +1.00 - .05= -0.50


Review:
1. Find an optionable stock in a bearish trend. Fundametals are not important.
2. Perform TA, enter at a bounce off resistance or a break of support
3. Sell a put option with a strike price that is below the current trading price of the stock ( do this only after entering the long leg) and buy a put with a strike price that is higher than the put we sold: this creates a debit
An extremely bearish investor might buy a strike price that is out of the money
4. Enter the trade by "buying to Open" the put with the hiher strike price and "Selling to Open" the put with the lower strike price. If possible, enter the trade as a single position instead of legging into the trade (one side at a time)
5. Monitor your trade on a daily basis
6. Close out the trade if the stock starts to show signs of strength or is rising unexpectedly
Exit by "Sell To Close" the put with the higher strike price and "buy to close" the put with the lower strike price
7. Always find out what your brokers rules for exercising a spread are just in case the call you sold is exercised.

An Easy way to remember how to play credit or debit spreads:

When it is a bullish spread, you Buy a Strike price below the stock price and you sell above the price you bought. These are known as Bull Put (credit) and Bull Call (debit).

When the spread is bearish, you sell a strike price below the stock price and buy above the price you sold. These are known as Bear Call (credit) nd Bear Put (debit).

That is the final chapter for vertical spreads!

[leemalone2k3]

Vertical Trade Mechanics
here's some trade mechanics to chew on:

Long Verticals:
If you expect a quick, big move:
Buy ATM and sell OTM. Make a quick exit just like you do with long calls or puts and take your profit on that move. Do not hold until expiration. Remember, you need the stock to move fast and large!

If you expect a small or no move:
Buy ITM (puts time decay in your favor) and sall ATM and hold until expiry.

With Long verticals early exercise gives you max gain and there is no margin requirement.

Short Verticals:

If you sell ITM be very careful. This means the stock must move really hard and really fast. This type of play is the highst risk/lowest possibility of getting the right move. That is why they pay the highest credits- beware of high credits.

If you sell ATM the stock still may need to move a little bit, but in many cases the stock can stay where it is and you can still collect premium or at least not lose money and in a few cases the stock can go against you a little bit and still you can break even. The probability of a winning trade is higher than if you sell ITM (aboove) and these type of plays give decent sized credits and decent risk reward.

If you sell OTM, the stock is already where you want it to be. This play has the highest probability of success but tiny rewards. You could do 20 of these with all winning trades and it would only take 1 losing trade to take back all the gains you got on the winners.

With Short verticals, early exercise equals max loss and margin is required.

Hope this helped explain it


In all verticals there is a max gain and a max loss- both clearly defined. If I see 80-85% of max gain, I will usually close out the trade because I dont like the risk of losing those 85% gains just to get another 15%.
here's some trade mechanics to chew on:

Long Verticals:
If you expect a quick, big move:
Buy ATM and sell OTM. Make a quick exit just like you do with long calls or puts and take your profit on that move. Do not hold until expiration. Remember, you need the stock to move fast and large!

If you expect a small or no move:
Buy ITM (puts time decay in your favor) and sall ATM and hold until expiry.

With Long verticals early exercise gives you max gain and there is no margin requirement.

Short Verticals:

If you sell ITM be very careful. This means the stock must move really hard and really fast. This type of play is the highst risk/lowest possibility of getting the right move. That is why they pay the highest credits- beware of high credits.

If you sell ATM the stock still may need to move a little bit, but in many cases the stock can stay where it is and you can still collect premium or at least not lose money and in a few cases the stock can go against you a little bit and still you can break even. The probability of a winning trade is higher than if you sell ITM (aboove) and these type of plays give decent sized credits and decent risk reward.

If you sell OTM, the stock is already where you want it to be. This play has the highest probability of success but tiny rewards. You could do 20 of these with all winning trades and it would only take 1 losing trade to take back all the gains you got on the winners.

With Short verticals, early exercise equals max loss and margin is required.

Hope this helped explain it


In all verticals there is a max gain and a max loss- both clearly defined. If I see 80-85% of max gain, I will usually close out the trade because I dont like the risk of losing those 85% gains just to get another 15%.

[bUrRpPPP!]

very cool.....