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Hi Prosper,
The strategy you are describing is called a covered
put and is the exact opposite of a covered call and is exactly the same as
selling a call naked but with higher commissions because it involves two initial
trades. It is used when your outlook on the stock is neutral to bearish
and has limited profit potential and unlimited loss potential if the stock goes
up.
The maximum gain is:
1) The time premium received from
the put. This occurs if the put's strike is greater or equal to the short
stock's sale price. For example sell XYX short at $50 and sell a $50 (or
higher) strike put for $2.00. If XYZ moves below $50 at expiration the put
would be exercised and you would be forced to buy XYZ for $50, then immediately
deliver it to cover the shorted stock, therefore you profit the $2.00 ($200.00
per contract) minus commissions.
OR
2) The time premium
received from the put plus a capital gain on the stock. This occurs when
the put strike is lower than the stock's sale price. For example sell XYX
short at $50 and sell a $45 (or lower) strike put. In this case if
XYZ was below $45 at expiration you would be exercised and would buy the
stock for $45 then cover the short thus making $5.00 plus you keep the
premium of $2.00 so you make $7.00 minus commissions.
The break even is the short sale price of the stock
PLUS the premium received from the sale of the put (excluding
commissions). So, if you shorted XYZ at $50 and sold the puts for $2.00
you would be protected up to $52.00 minus commissions (the break even
point). Above the break even the losses are unlimited. The put would
expire worthless and you keep the premium but your exposure to the short stock
would remain and increase as the stock moves up.
The margin requirements would be the same as for
shorting a stock except you could leave the premium received in your account to
partially defer this.
Brokerages that specialize in option trading should
be able to accept orders that would open and close out all parts of a trade
at the same time. For example you would specify to enter the above example
to short 100 shares and sell 1 put at a limit price of $52.00
credit or better. Similarly you should be able to set a stop that if
the stock trades above $52.00 to close both positions, buy to cover the short
stock and buy to close the short put, however the usual risks when using
stops still apply (i.e. gap opening, fast markets, etc.).
Remember I said that this trade was exactly the
same as selling a call naked? This is how I would recommend
doing this trade since the commissions are far less and the stops
losses easier to set up, especially if you broker can not accept "one closes the
other orders" (change brokers!)
If you have a specific stock in mind I will
chart it for you.
Good luck and good trading,
Ray Raffurty
<BLOCKQUOTE
>
----- Original Message -----
<DIV
>From:
<A title=prosper1000@xxxxxxxxx
href="">prosper1000
To: <A title=realtraders@xxxxxxxxxxxxxxx
href="">realtraders@xxxxxxxxxxxxxxx
Sent: Thursday, March 27, 2003 9:23
PM
Subject: Re: [RT] What's wrong with the
stratagie in #21907?/Ray et al
Here is is Ray,It should have been sell an at the
money put and sell the underlying. I want to know if I am clear about what
can go wrong if the price goes up, stays about the same, or goes down. If
the price goes down the the loss on the option and the gain on the
underlying should cancel out. If it goes up, you maintain the value of the
sold put, but you lose on the sell of the underlying. I guess that a stop,
would stop the loss on the underlying, but then your put would be
naked agian.Thanks again.Prosper--- In
realtraders@xxxxxxxxxxxxxxx, "Ray Raffurty" <r.raffurty@xxxx>
wrote:> Hi Prosper,> > No I didn't get the second
post. I've noticed that happens sometimes with Real Traders and/or
Yahoo. What did it say?> > Good luck and good
trading,> > Ray Raffurty> > -----
Original Message ----- > From: prosper1000
> To: realtraders@xxxxxxxxxxxxxxx >
Sent: Thursday, March 27, 2003 1:24 PM> Subject: Re: [RT]
What's wrong with the stratagie in #21907?/Ray et al> >
> Hi Ray,> > Did you read message
#21907? I got the origionaly stratagy in my > first post
wrong. I redefined it in post #21907. Sorry about that. I
> would still like to hear what you and others have to say
about it. > Thanks> > Prosper
> > --- In realtraders@xxxxxxxxxxxxxxx, "Ray
Raffurty" <r.raffurty@xxxx> >
wrote:> > Hi Prosper,> >
> > There is nothing wrong with any strategy as long as
you understand > the possible risks and
rewards:> > >
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