Josip Causic

Working Bearish Options for Profits

by Josip Causic   01/12/09

In my example, I have sold to open (STO) - 10 Dec 2008 34 calls @ 2.42 and also Bought To Open (BTO) + 10 Dec 2008 33 calls @ 1.91

The credit of 51 cents came from the difference of the two premiums, which is $2.42 minus $1.91. Although the credit of 51 cents might not seem like much, it needs to be multiplied by 10 contracts. Also, every single contract controls 100 shares; therefore, the credit of 51 cents turns out the credit of $510 without subtracting the cost of commissions.

The spread between the strike prices is $1 (meaning 34 strike price minus 33 strike price gives us $1).

Maximum loss is calculated by subtracting the credit received (51 cents) from the width of the spread. In other words, $1 minus 51 cents equals 49 cents. Therefore, as long as a trader has $490 in his account, he or she would be able to place that trade.

The reward of 51 (cents) divided by the risk of 49 (cents) gives a 104% return on our money.

Figure 2

Figure 2 illustrates the day and time I performed this transaction in my brokerage account and received the credit of 51 cents times 10 contracts. The money would show up in the account but it would be placed in parentheses, because it really becomes mine only after the expiry.

Figure 3

Figure 3 illustrates that currently both of the calls are nearly worthless with only a couple more days left before the expiry. The decrease in premium should also be visible in the chart.

At the time of writing this article, the QQQQ was trading around 30 and the sold strike price was still quite a distance away, sitting at 33. In this case, both of my calls, the one that was sold and the other one that was bought for protection, will expire worthless.