Short puts. Everything you need to know. Our favorite graphic.
What What What happened with the background on this one? I saw you had to put the white in there. Well, can you This is a PDF, so I couldn't change the colors of the text and the text was black, so I had to throw on a white background.
But as you can see, we have a little 3D imaging. You got a little a little shadow here. So, it makes it look a little cooler.
I like that. But yeah, short put 101. We are selling a put when we are engaging in this trade.
And this is a high probability trade simply because as you can see on this risk graph, you are collecting premium for selling this put. you are putting yourself in an obligation to take or be put 100 shares of stock. If your shortp put is in the money at expiration and you hold it through expiration and you don't close the trade, you will be put 100 shares of stock.
So this is a neutral to bullish position because of course you are collecting premium. If the put expires out of the money, you will keep that premium as 100% profit. And for that to accelerate uh or for the put to lose value quickly, a bullish stock price move will certainly help that.
So that's why this is a bullish trade, but you could consider it a neutral to bullish trade as well. Implied volatility environment here that we're typically targeting is a high implied volatility environment. And that is of course because if we are in a high implied volatility environment, we are collecting more exttrinsic value premium than uh comparing to a low implied volatility environment and or we can move the strike much further out of the money or much further below the current stock price to collect a target premium of whatever you you may want to target.
So, if you're trying to collect a dollar, you can move your strike much further out of the money in a high IV environment than you can in a low IV environment. Uh, and we can look at a couple of examples in a little bit here. Max profit is credit received.
That's the most you can make on the trade. This is your classic uh reason why this is a high probability trade because you are capping your upside profit potential and you have the risk of 100 shares. So you have a high probability of this working out in your favor because you can be successful if the stock stays the same, goes up or even goes down a little bit.
As you can see here, as long as your strike stays out of the money, you keep that 100% premium. Even if it goes in the money, you can make a variable profit depending on how much credit you receive relative to how far the strike is in the money. Max loss is the strike price times 100, which is your notional value risk.
So, if you sell a strike, a 100 strike put, that represents a 100 shares at the 100 strike. That's $10,000 of risk. But you are collecting premium to take that risk.
So, if you collect $3 to sell that put, that's 300 real dollars of risk. your $10,000 if the stock goes to zero of risk is dropped down to 99,700 since you are uh not not 9 9,700 uh because you are collecting that extrinsic value premium that offsets that and of course because we have a capped profit potential we typically shoot for a 50% profit target which is off of the credit received. So if I collect $3, 50% profit would be $150.
Uh, and we like to cap that because the more unrealized profit you see on the table, the less you can make going forward, but you still have all the risk at the initial position. So, your riskreward really starts to skew out of your favor the more you hold an undefined risk position uh trying to get, you know, that max max profit. Good stuff.
We're going to be talking about that on the next slide, but first, the basics of what a shortput is. So shortput as the shortput seller, you're selling the right to another party for them to sell stock at a certain price and expiration. So it's it's essentially an insurance for the buyer and a risk premium um uh capture for the seller, right?
So it's very much similar to that sort of analogy in that you know the put buyer takes it as protection if the stock goes lower and the the seller is getting paid to take on that risk of the stock going lower. So um it's you know the it's it's not a zero sum and that you know the there can only be one winner. there's a a uh you know there's a risk to holding long stock and carrying long stock and so buying premium on that on that stock can be a benefit to somebody that's long stock but we're going to talk about the the short put setup high IVR and high IV as with all of our our short strategies we're always looking for high implied volatility all else it's equal you're going to get paid more in something that has high implied volatility because the expectation is wider price movement up or down uh relative to something that's low implied volatility.
You're going to get paid less to take on that risk. So, we always want high implied volatility and high IV rank. Typically, we're looking around that that 16 to 30ish delta for the short option.
You can skew this if you're more directionally inclined to this stock. If you want to be, you know, more heavy long this this stock, you can go closer at the money, maybe to a 40 or even a 50 delta. Um, if you want to be less directionally uh inclined on this position, maybe you spread off the trade.
If you go further out of the money, you know, as with any short premium position, you want to keep in mind that, you know, you're taking a 100 shares of risk. You want to make sure you're getting paid for that risk. So, we're never selling that junky, you know, two, three delta option.
of course, super high probability, but you know, those positions are are are capital intensive for the amount of ri risk that you're putting on and the amount of reward that you can potentially get. And, you know, that's it's hard to to hold positions like that for such little reward when you have limited capital. So, you got to keep in mind we're never trying to sell junk.
Ultimately, it depends on how bullish you are in the in the position. a 16 delta put. While it does have directionally long delta, it's a relatively conservative amount of long delta.
It of course can uh change if the the option gets f uh gets closer at the money. You'll get a heavier delta which is synthetically buying, you know, buying shares into a lower price on the underlying. Uh but it it ultimately depends on your your risk tolerance and and consider that if that strike does go in the money, your risk profile is going to be very similar or it'll be the same as a long stock covered call position.
So naked puts that go in the money, although you'll you'll be at a max lo or a marked loss, your risk profile is the same as a covered call. So, if you're comfortable with covered calls, you should be, you know, okay and comfortable with an in the money naked short put. As with all naked positions, keep in mind the the buying power that you that uh you see on entry, it's not static.
So, it will change based on changes in implied volatility of that underlying. So, you could see uh volatility expand. Your buying power will likely increase if that happens.
You can see increases in buying power. If the strike goes closer at the money. So, if you're selling a 16 or 20 delta option, it's going to use less buying power because it's further out of the money.
It has less perceived risk at the moment relative to something that's a 50 delta option. That one's closer out the money. It's going to use a little bit more buying power.
So, just keep in mind that just because it uses $1,000 in buying power doesn't mean that it's going to stay $1,000 in buying power through the duration of the trade. But it it likely won't fluctuate, you know, all that much. You won't see a $1,000 buying power go to $10,000 buying power.
Yep. And we get the question all the time, what's the best short put to sell? What's the best strike?
It doesn't exist. Um really, if you're dealing with a liquid marketplace where many strikes are possible, many strikes are liquid. It really does come down to where do you want your risk?
Where do you want to take on intrinsic value risk if that's the case? and um what sort of premium are you trying to collect? So, just make sure I think the biggest thing is not to sell junk.
So, don't sell, you know, we're not selling 10-cent options with $1,000 in buying power. Doesn't make sense. Um we want to usually keep that return on capital.
Closer to 20% if we can, which is easily achievable in high heavy products, but 10 to 20% for a short put uh is s is uh acceptable for us. Yep. All right.
So profit targets and management for uh the profit targets, we're always looking around 25 to 50% of the max profit. I linked or I I used a screenshot from the best practice rules of thumb that we've been using for all these segments. This one is for naked puts specifically.
So you can see um the percentage of max profit relative to the days held, you know, the days that the trade has been opened. These are kind of metrics that we use to to figure out when we should manage those trades that have moved quicker than we expect. Right?
So we expect that 50% uh to come roughly around that 21 day day mark. It incorporates changes in volatility, changes in price, you know, changes in whatever's happening in the market. That's kind of the the time where a trade should be near that 50% mark.
But you know there are are are times especially with one-sided trades like a naked put or a naked call which you know that you get both direction and volatility and time all to work in your favor and that's kind of when you get these accelerated profits. So, um, you know, that's kind of why we we look to manage these positions at a lesser than 50% mark because the the the relative difference in in value change over that two days is much faster than what we're expecting over the 21day uh time frame. You know, you get 20% in two days, that's way faster than than, you know, 50% in 21 days.
So, you have to kind of keep in mind diminishing margins of returns there. So ultimately we're looking for somewhere around 25 to 50%. If it comes faster, these are are good targets to to look for to consider, you know, closing out of those options that have lost considerable amounts of value in a short period of time.
So consider volatility and delta. also factors into these early management uh metrics because you know you've probably gotten one of the two to work in your favor if you're even considering closing the position this early. So, you had to have got a directional move in your favor.
You had to have got some sort of volatility contraction. Both those things go in your favor and that's why these positions move uh a lot faster than something like a strangle where you have a more dynamic delta where you kind of get long and short with the movement in the stock. With naked puts, if the stock goes up, you're going to get significantly less long that position and that's going to go into your favorite into your favor.
And of course, riskreward of continuing to hold the position. That's basically what this this uh chart to the or this uh table to the right is suggesting at a certain point you know you have more risk than potential reward over the duration of the trade. So for management we're going to take a look at a couple of slides at the end here that uh we've used before that just go into the different sort of management you can do and flexibility you can do with naked options rolling out in time.
You know, with rolling out in time, you have a lot of flexibility when you have naked positions. You can roll up or down depending on where the stock has moved. Um, you know, when adding time, you're always adding exttrinsic value.
So, it gives you a little bit more flexibility to go closer at the money. If the stock has gone up and you want to remain bullish, it allows you to kind of go um at the money if the stock has gone down, meaning taking off intrinsic value just because you're you're rolling into a much higher exttrinsic value expiration. So there's a ton of flexibility there in terms of like in the same expiration the management because you have that naked put and you're already margined on that put you have the flexibility to sell a call without using additional buying power uh against that position.
So it's something that you can do into strength as well. So if you get a a a decentsized up move, you know, you can sell a call into the strength of that move and leg into a strangle type position or do a combination of rolling up the put, selling the call to get flat delta. There's a lot of flexibility there with naked puts.
Yep. And I think the biggest difference uh that you can clearly see especially if you've been watching the iron condor everything you need to know or the strangle one is the much lower days held average to reach these percentage profits and that's of course because you are only taking risk on one side. Uh you only have the downside risk in the short puts.
So anytime the market rips higher your short puts are going to lose a ton of value where if you have a strangler iron condor that's not necessarily going to be the case. So that's why Nick and I have said many times where when we expect to see the market chopping around like down 100 points, up 100 points, down 100 points, uh which we we've actually seen recently, we tend to add more of these one-sided trades to our portfolio because we want to we want to capitalize on the potential for the reversal to happen. So on a 100 point selloff, if I sell a put and the next day I get a 100 point rally, I'm absolutely going to see more than 20 30 40% profit because the move is so aggressive relative to what you might expect on a normal day.
All right, couple quick tips. So you can use naked puts as a way to acquire stock. So holding these through expiration, if they are in the money, you will be assigned stock.
you can then, you know, roll into covered calls or keep the stock and and and just use that as static delta. So, you can certainly take um the stock via a short naked put if the short goes deep in the money. And this is something that we've talked about a couple times with reasons why we wouldn't continue managing a naked position because we always talk about how you can roll naked options into perpetuity just because there's always some sort of exttrinsic value further out in time.
there does there there comes a point where the exttrinsic value kind of uh takes away or isn't enough to take away from the potential tail event and what I mean by tail event in the context of a naked put is the stock having a big move back to the upside. So, when you think about naked puts specifically and and naked calls that are in the money, you use them interchangeably, but naked puts that might be at a 95 or 97 delta. If the stock goes up and that that strike goes at the money, you're only at a 50 delta now.
So, you're d your dynamic delta goes against you because you don't have that same dynamic delta to the downside. You're going to be at 100 deltas if the stock continues to go lower. So you miss out on some of the move higher that tail event because this is a 95 delta option.
It's basically stock. You miss out on that uh if you're continuing to roll that option. So if you get to a point where you're rolling for pennies, one, two, three, five cents, it might make sense to just take the stock because you you'll be able to capture that tail event regardless of how low of a probability it is.
it's going to be a low probability, but you know, it makes sense to to take the stock at that point. So, puts takes taking advantage of skew. If skew is present, we um and you don't want to just straight up buy the stock.
We can use puts as a way to play into that that put skew. Put skew really helps with the defensive management flexibility. And that's just because you're getting paid to take the downside risk.
something like a spy or Q's or Apple, those typically have put skew. You might see call skew in something like a Tesla or something that has, you know, a low a lower price stock that has a floor already built into it at at zero, those things probably have call skew. Yep.
And I think when it when it comes to trading spy or the Q's, we'll show a couple of examples, but put skew really helps your defensive management opportunities and flexibility in terms of reducing your risk in a really big way because there's so much putside premium on those products. Yeah. Ideally, for m for uh entering the trade, you're doing so in a down day.
So when you we use the buying into weakness, selling into strength, you're synthetically doing that if you're selling puts into a down move in the stock. All else equal, you're going to get paid more for that put relative to if a stock is flat or up on the day. So you want to, you know, leg into these positions when the stock's going down.
That of course is a hard thing to wait on, but it's something that can trigger you to get into a position. If you say to yourself, "Oh, I've been waiting for this stock to go down a little bit and the stock's down today. " Maybe you sell the put today uh rather than waiting for for it to continue u you know into the the week or the future.
Assignment risk is minimal on naked puts. So you've got no dividend risk which is the main factor that goes into early assignment. Of course, you can get assigned early on a on a option that's, you know, a couple days from expiring.
Like if you're trading the Friday, you know, weeklys this week, that option is going to lose exttrinsic value a lot faster. If you're trading something that's 40 days out if you're tested or in the money in the next 10 days, you're very likely not going to be a sign just because there's always going to be exttrinsic value and there's typically more exttrinsic value the more time you have left into the trade. So dividend risk not something we worry about.
We actually did a full segment on it. So uh it's called watch this before worrying about assignment. We did that last year sometime or maybe two years ago if my mind is men is melding all those together.
But it's a really good it's a really good segment on on assignment risk. One last point. So synthetically in the money short puts are the same as covered call positions.
So Mikey and I did this trade in Snapchat last week, two weeks ago when we did our Friday full day hosting. So I bought the stock. I sold the 12 strike puts or the 12 strike calls.
Mikey sold the 12 strike puts. It's a synthetically the same position uh an in the money naked put has the same intrinsic value and exttrinsic value as a covered call position with the stock at that given point. Uh, so it's just a a way to kind of settle the nerves if you get freaked out with a put, a short put going in the money.
Just remember that it's a covered call position at this point moving forward. And uh I see some questions in the YouTube chat before we quickly get through some defensive uh management, but uh one of the questions is when's the best time to roll a put? And you really got to focus on this.
If you're not collecting any extrinsic value, then it does makes does make more sense to just take the shares even though you may have a little bit of a higher buying power. But if you've got a short put that's in the money, the best time to roll it is when it gets closer at the money because you want to be you want to be rolling when you have a lot of exttrinsic value that you're rolling into. And if you can't get that because the puts deep in the money, then it may make more sense to just take the shares.
All right. So, we're going to go through three graphics of different management techniques you can use with in the money or at the money naked puts if you're also rolling these out in time. So, rolling the same strike out in time, you're obviously keeping them roughly the same amount of delta.
It's going to be a 50-ish delta, but you're collecting, you're adding, you know, uh potential exttrinsic value to the trade. it's going to give you a a break even further out of the money from the stock price. Gives you more potential upside to um if the stock does go up.
So, you're just collecting exttrinsic value, reducing your basis on the position. You can think of this as a way to reduce basis on your a long stock position. You're basically long stock that's at the money and you're reducing that basis to the downside.
Absolutely. And this is your classic why uh rolling out in time. you'll always be picking up credits, reducing your basis just because you're pushing that out, collecting more extra in.
All right, so the next one, if you want to remain bullish on the on on this underlying rolling up or at the money on on the um on the stock when you're rolling out in time, you're going to collect the most exttrinsic value, the most potential uh value out out of that roll. It's going to, you know, reduce your basis a little bit, but your strike is moving closer at the money. So, it's important to understand that you're collecting credit, but you're going closer at the money.
Your break even to the downside might be a little bit lower than where it was at your original trade, but you've realized that value from that first put. You're rolling into a new put that's that's closer at the money or or maybe it's going to the same delta that you started with. You sell a 30 delta put.
It you know, stock goes up, that delta goes to five or 10, you close the position, and now you sell out a new 30 delta put. that 30 delta put might be closer to at the money on the stock. Yep.
And big thing is you're picking up more premium which brings your overall max profit to a higher level but because you're moving the strike up in this case you are bringing where your risk is closer to the stock price but of course that additional credit helps offset that still. All right the last one. So, this is probably the uh most common question that we get of uh you know, my puts deep in the money.
What do I do? I don't want to be as bullish anymore. A way you can do that is by rolling out in time and and taking off some of that intrinsic value by rolling closer at the money on the on the uh on the stock.
So this role you can do for maybe a small credit, maybe a small debit. Essentially moving forward the same amount of exttrinsic value but but or the the same amount of exttrinsic value that you can capture net but using the added time and that exttrinsic value that comes with time to take off the intrinsic value. So here your your option is in the money.
Let's say it's $5 in the money. $5 of intrinsic value uh that you're going to have to buy back at some point, you know, in the future. Rolling this out in time and at the money, if you can do that for uh you know, a flat credit or debit, a negligible credit or debit, and go at the money, you're taking off that $5 of intrinsic value because you're collecting $5 of total exttrinsic value.
you're essentially rolling forward that same amount of exttrinsic value that you had at the start because you're taking off that intrinsic value on the position. So, this is a way to adjust your position, get a little bit less directional. Remember, you're going to go from a 70 or 80 delta option to a 50 delta option.
So you're you're not as heavily uh long a position as as you would be if you just rolled this forward, but it is a way to take off a little bit of exposure into a move down. Lovely. Beautiful.
