Bear put spreads are also known as put debit spreads. They are a bearish options trading strategy that involves buying a put and then selling another put out of the money with the same expiration date. This combination process lowers the break-even price on the trade.
Bear put spreads are a bearish options strategy that limits your trading risk. It consists of buying a long, short-term strike with the same expiration date. The short put reduces the theta and delta of your contract. Buy a put and sell a put.
Who doesn’t want to learn a strategy that maximizes profit while limiting risk? We often fight with our emotions and try to make home run trades. Therefore, we end up giving back our profits plus some. As a result, learning to trade this strategy is a smart way to protect your brokerage account.
Options Trading Course
Have you been dreaming about making a few extra dollars in the stock market, yet you don’t have $1,000 of dollars to get started? Are you looking for a way to protect yet make money simultaneously?
I have exciting news: trading option spreads might be your solution. It’s lean, mean, and won’t break the bank. It’s the bear put spread. So, hold on, and I’ll show you how you can profit from this money-making strategy.
If you haven’t noticed, options spreads have many different names yet mean the same thing. Take a bear put spread, for example; it’s also known as a long and debit put spread.
This is because you take a debit to enter the trade. It’s important to remember that a bear put spread is a vertical spread.
The End Goal
Your end goal is to buy a put, hoping the price declines while at the same time writing another put. Both have the same expiration but with a lower strike price to offset some of the cost.
Use a bear put spread when you think the underlying asset’s price will drop shortly. To build a bear put spread, buy a higher striking in-the-money put option and sell a lower striking out-of-the-money put option.
It’s important to remember both options are on the same underlying security with the same expiration date. Check out our service if you want to learn more about options spreads.
Here is the options chain where you’d buy bear put spreads. This is where you can see the width of the strikes and where you’d need the stock to go to profit.
Bear Put Spread Examples
Suppose ALI stock is trading at $38 in January, and you have a bearish outlook. Maybe they’re poised not to meet earnings coming up shortly.
Based on your analysis, you decide to enter a bear put spread. You buy the FEB 40 put for $300 and sell the FEB 35 put for $100 simultaneously.
The result is a net debit of $200 to enter the position. The price of ALI stock subsequently drops to $34 at expiration, which is what you want.
Both puts expire in the money. The FEB 40 call you bought has $600 in intrinsic value, while the FEB 35 call you sold has $100 in intrinsic value.
This is an example of implementing bear put spreads using the ThinkorSwim platform. It shows as a put debit spread.
How to Trade Bear Put Spreads
- Buy 1 In The Money Put
- Sell 1 Out Of The Money Put
It would be best to have a net cash outlay (net debit) at the beginning due to how you select the strike prices. Assuming the stock prices move down toward the lower strike price (what you want), the bear put spread works similarly to buying a long put.
Where it differs, however, is in profits. The possibility of higher profits stops with a spread. The possibility of higher profits stops with a spread, unlike a put.
By shorting the out-of-the-money put, you reduce the cost of the bearish position. However, you forgo the chance of making a substantial profit if the underlying asset plummets in price.
Your profits are limited, but your risk is defined. This is part of the trade-off; the short put premium mitigates the cost of the strategy but also caps the profits.
A different pair of strike price choices might work if the short put strike is below the long put strike. Your decision is balancing trade-offs and keeping to a realistic forecast.
Maximum Profit
Maximum profit is when the underlying price is less than the short put’s strike price. It’s as simple as this: the stock price must close below the strike price of the out-of-the-money puts on the expiration date to realize maximum profits.
Both options expire in the money. However, the put purchased with the higher strike price will have a higher intrinsic value than the put you sold with the lower strike price.
Thus, your maximum profit equals the strike price minus the debit taken when you entered the position. Below, you can see the formula for calculating maximum profit:
Your Maximum Profit = Strike Price of Long Put – Strike Price of Short Put – Net Premium Paid – Commissions Paid.
In other words, your maximum profit is subtracting the premium you paid with the strike prices of the short put bear put spread. Check out our trading room for real-time examples of trading spreads.
Maximum Loss
If the stock price exceeds the in-the-money put option strike price at expiration, your maximum loss is the debit taken when entering the trade.
Based on this, the formula for calculating maximum loss is as follows:
Your Maximum Loss = Net Premium Paid + Commissions Paid
In other words, your max loss is the premium you spent. This is the same as it would be with naked options.
However, the price of spreads is cheaper than naked options. Therefore, the loss is much less because the premium is much less.
Break Even
Your breakeven point is equal to the long put strike price minus the net premium paid to enter the trade. Breakeven prices are important to know because you want to know that your trade can reach that point.
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| DESCRIPTION | Learn how to read penny stock charts, premarket preparation, target buy and sell zones, scan for stocks to trade, and get ready for live day trading action | Learn how to buy and sell options, assignment options, implement vertical spreads, and the most popular strategies, and prepare for live options trading | How to read futures charts, margin requirements, learn the COT report, indicators, and the most popular trading strategies, and prepare for live futures trading |
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Key Take-Aways of Bear Puts
- Use a bear put spread if you’re pessimistic about a stock
- Your profits and losses are defined
- It involves simultaneously buying and selling puts on the same underlying asset with the same expiration date but at different strike prices.
- A bear put spread profits when the price of the underlying security declines
Capping Profit
Bear put spreads make cap profits because of the spread strategy. That can be off-putting to traders.
However, that’s normally because we’re greedy. Who doesn’t want to make thousands of dollars a trade? Is that normal, though?
It can happen, for sure. However, slow and steady wins the race.
Remember that one contract controls 100 shares, and you can buy more than one contract. Just make sure you have the capital to do so.
Small profits add up. Safely growing your account is going to benefit you in the long run. You won’t blow up your brokerage account.
You also won’t get burnt out from taking losses. Remember, you never go broke taking your profits.
Final Thoughts: Bear Put Spreads
We usually expect our stocks to increase in value, not decrease. But when faced with a down market, bear put spreads can be profitable.
There will be times now or even in the future when the stocks you want to trade aren’t going up. And in some cases, they stay neutral.
That’s why this simple trading strategy is beneficial in your arsenal. It will allow you to reap benefits as your fellow traders sit on the sidelines or, even worse, lose money.
Let us help you get started on your options trading journey. From simple naked options to advanced strategies, we will guide you every step of the way.
If you need more help, take our options trading course.
Frequently Asked Questions
The benefit of a bear put spread is that it allows traders to profit as the security price decreases without spending much money.
The bear put spread formula is broken down by buying one (ITM) in the money put and selling one (OTM) out of the money put. Traders profit as price decreases in the security.
A bear put spread does not require margin to enter into a trade.
A bear put spread profits when the price of the underlying stock declines in price. This strategy includes the buying and selling of puts on the same security and same expiration date, but with different strike prices.
Yes. A bear put spread needs to be closed. The spread can be closed anytime before expiration. Traders (STC) sell-to-close the long put option and (BTC) buy-to-close the short put option.
