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Turn Your Trades Into “Gold” With Professional Strategies 99% of Traders Don’t Know About! Read About Puts Then Click A Link

A put option is a contract between two parties (a buyer and a seller) whereby the buyer acquires the right but not the obligation to sell a specified stock or other underlying instrument at a specified price by a specified date.

The seller of a put option assumes the obligation of taking delivery of the stock or other underlying instrument from the buyer should the buyer wish to exercise his option. The put is referred to as a short instrument i.e. that the buyer profits from the stock falling.

For the seller to gain, the stock must not move below the strike price in addition to the amount of money received for the sale of the option. This point is known as the breakeven point and is calculated by adding the call’s strike price to the option’s premium. Of course, the purchaser wants the stock price to go beyond the breakeven point.

i.e. you purchase the MSFT January 65 put for $2.00 because you believe Microsoft is going to fall. This option gives you the right, but not the obligation to sell the stock at $65.00. In order to obtain this privilege, you had to spend $2.00. In order for you to make a profit, the stock would have to fall below $63.00 by expiration.

A Trader Transformed $2,000 Into $9,700 in Just 35 Days And Then Detonated His Account To A Mind Boggling $218,000?

This is because the stock has to trade down below the strike plus the cost of the option. If the stock fell to $60.00, you would gain $5.00 because you have the ability to sell it at $65.00. However, because you paid $2.00 for the put, you must deduct that from your $5.00 profit for a total profit of $3.00. You have just made $3.00 on a two Dollar.00 investment. Not a bad return.

The purchaser of the put has reduced risk and limitless possible gain. His risk is limited only to the amount of money he spent in purchasing the put. His unlimited potential gain comes from the stocks unlimited downside potential.

The seller, alternatively, has a restricted potential profit and limitless potential loss. The seller can simply gain what he was paid for the put. The unlimited risk comes from the stock price’s ability to decline during the life of the contract.

i.e. if a seller released the MSFT January 65 put for $2.00, he is giving the buyer the right to sell 100 shares (per contract) of MSFT to him at $65.00 per share at any time until the option expires.

If MSFT drops and trades lower at $55.00, the seller would realize a $10.00 loss minus the sum he gained for the sale of the option ($2.00), for a net loss of $8.00. Meanwhile, the buyer would realize a $10.00 profit less the amount he paid for the option ($2.00), for a net profit of $8.00 each contract.

If MSFT were to trade up to $75.00, the seller realizes a $2.00 profit (the amount of money he was paid from the buyer). Meanwhile, the buyer would only lose what he paid for the option ($2.00). The seller is obligated to take delivery of the stock from the buyer at the strike price regardless of the present market price of the stock. This is why the seller receives premium for the sale.

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This entry was posted on Wednesday, June 24th, 2009 at 11:32 am and is filed under Uncategorized. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.

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