Put Spread

What is a Put Spread?

Bear (Long) Put Spread:

Buy 1 put (higher strike price)
Sell 1 put (lower strike price)

The expiration months for both options should be the same. You'll always pay a net debit for this spread - i.e., the put you buy will always cost more than the put you sell. Once this is done you will be long the spread. Put spreads may commonly be bought as one unit - i.e., 1 put bought and 1 put sold in a single transaction.

Why Use Put Spreads?

Investors who are moderately bearish on an underlying stock can elect to use put spreads. They want to buy a put and potentially profit, but don't want to risk the premium they'll pay for it. By selling the put with a lower strike price they'll receive premium to help pay for the long put, but in return will cap the substantial downside profit potential that this long put would otherwise offers.

Market Opinion of Put Spreads

This is a bearish strategy.

Maximum profit potential: limited

Put spreads have a theoretical, maximum value equal to the dollar difference between the strike prices. If both options expire in-the-money, the difference in their intrinsic values will always be this amount. When you buy a put spread, your profit is limited to maximum spread value less the debit you paid for the spread in the first place.

Loss potential: limited

Your maximum loss is limited to the premium paid for the spread, no matter how much the underlying stock price goes up.

Break-even point (B.E.P.) at expiration:

Underlying stock price = long put strike price - net debit paid

Possible Scenarios for using Put Spreads

Positive Scenario of Put Spreads

The underlying stock goes down as expected and you could sell the spread for its maximum value at expiration.

Negative Scenario

The underlying stock price increases significantly, both options expire out-of-the-money and worthless, and you lose the entire debit paid for the spread.

How does Volatility impact Put Spreads

The effect of a change in volatility varies for put spreads, depending on whether the options are in-, at-, or out-of-the-money and the time until expiration.

Time Decay and Put Spreads

The effect of time decay varies, depending on whether the options are in-, at-, or out-of-the-money and the time until expiration.

Example Put Spread Trade:

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Please note: All or part of your investments using bullish strategies has greater risk of loss in falling markets.