I was an investor for more than fifteen years before I took up the education of options. One of the surprises to me was to learn about “naked” short
options. I had not known that short options carried a financial obligation to either buy or sell the equity. Short puts carry the obligation to “buy an
equity” if the short put strike price goes in-the-money over the expiration time period. What can I do to prevent a big loss in my portfolio if something
unknown happens to the equity while I’m holding the short put (SP)? Would I only enter an SP if I believe that the equity is going to be bullish? How can I
protect my portfolio?
The best personal discipline I found is the six-step methodology at OptionsANIMAL.com. If I examine the price chart at the end of every day for evidence
that it is doing well and heading towards the primary exit then I am comfortable leaving it in position. However, if I see during that chart examination
that it is not heading towards the primary exit then I should have my secondary exit thought through and written down in my trade journal. Once I see that
it needs to be adjusted, I will take the action to adjust toward the secondary exit. What is the secondary exit? Adding a long put in a Bear Put Spread or
Bear Put Diagonal Calendar.
By seeing that the equity is moving in a bearish new trend I may spend some money on long puts to balance out the SPs that I have entered. The long puts
give me the Right-to-Sell at the strike price chosen during the given period of time in the expiration series. I select the appropriate strike and series
according to what I learned during my studies of options. It is always dependent on the math. The math is what will show me Reward and Risk.
Example: YHOO [Yahoo!] @ $28.71
August expiration is 30 days from today, August 17th, 2013.
Selling a $28.00 SP would be a credit of $0.60 (bid price) which means I would be buying the stock at $27.40. That’s more than $1.00 less
than its current price, if the stock goes down and makes me “obligated to buy it at $28.00.”
Expectation would be for the equity to move bullishly or remain stagnant over the next 30 days.
The price chart looks promising at this point. The 5 and 21 EMA are in a bullish trend, being supported by the RSI above 50 and the MACD in a bullish
confirmation. This leaves me in a position to select a bullish strategy.
BULLISH:
Keep the credit taken by selling a short put
STAGNANT:
Keep the credit taken by selling a short put
BEARISH:
If it is slightly bearish, do nothing more than check to ensure that cash is available to buy the equity at $28.00 per share. If it is very bearish on high
volume, buy an in-the-money long put due to expire in at least 90 days.
If I am comfortable selecting a Naked Short Put as a strategy to collect money, then I write the trade journal identifying both the primary exit (PE) and
the secondary exit (SE). Doing that puts me in a position to collect money month-after-month, or to take on the equity at a lower cost basis. Either way, I
am comfortable with the naked (cash-secured) short put, as long as I have a clear path for PE and SE.
Emilu Bailes
OptionsANIMAL Instructor
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