Short Put Synthetic Straddle
Risk: unlimited
Reward: limited
General Description
Entering a short put synthetic straddle entails selling (2) puts for every 100 shares of stock you are short. It's the same as a ratio put write, and its risk profile is identical to a short straddle.
(draw a short put synthetic straddle risk diagram here)
The Thinking
You are short a stock and confident it will trade in a tight range and won't move much from its current level. To profit from a lack of movement, selling options, which benefit from time decay, is a good route to go. If the stock moves up a little or down a little, you'll profit. It would take a relatively big move for the trade to lose you money.
Example
XYZ is at $55.00. You short 100 shares of stock at $55.00 and then sell (2) 55 puts for $3.50 each. The net credit is $7.00, not including the stock.
If the stock closed at $55 on expiration day, the puts expire worthless, and your profit is the net credit received.
If the stock rallies, the puts will expire worthless, and the short stock position will lose you money point-for-point with the underlying. For example, at $65, the puts will expire worthless ($3.50 gain per contract), and the short stock position will be down $10. The net is a $3.00 loss.
If the stock drops, the profit from the short stock will be countered by the loss from one of the short puts, and the other short put will continue to lose you money point-for-point with the underlying. For example, at $45, the short stock position will be up $10, and the 55 puts will be worth $10 ($6.50 loss per contract). The net is a $3.00 loss.
The PL chart below graphically shows where this trade will be profitable and at a loss.
|
