Description
The investor
writing Put options
should believe that
XYZ is not going
down! XYZ doesn't
have to go up, but
it must definitely
should not go down.
The maximum profit
is limited to the
Put premium received
and is achieved
when the price of
XYZ is at or above
the option's strike
price at expiration.
The maximum loss
is unlimited.
Writing Puts:
Why?
Like uncovered
Call writing, uncovered
Put writing has
limited rewards
(the premium received)
and potentially
substantial risk
(If XYZ falls below
the strike price
and the writer is
assigned). The primary
motivations for
most Put writers
are:
- to receive premium income, and
- to acquire stock at a net cost below the current market value.
Risk/Reward
Characteristics
Break-even
Point: At expiration,
the break-even point
(B.E.) is equal
to the strike price
of the Put option
minus the Put option's
premium. Before
expiration, the
break-even point
is higher.
Profit:
Profits are limited
no matter how large
the advance in XYZ.
Loss:
Losses are unlimited!!
Time Decay:
Positive. A Put
option's premium
consists of both
intrinsic value
(if any) plus time
value. As time passes,
the time value portion
of the Put erodes
(i.e., decays).
At expiration, the
Put's value will
equal its intrinsic
value.
Changes in
implied Volatility:
Changes in the option's
implied volatility
has an effect on
the "time value"
portion of an option's
premium. Thus, a
change in the option's
implied volatility
has the same effect
as changing (+/-)
the number of days
remaining until
the option's expiration.
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