Option Strategies - Short Stock Short Puts

An investor who has sold stock short can receive some protection and generate premium income by selling puts against their short stock position. Selling puts against a short stock position will only partially hedge the unlimited upside risk associated with any short sale of stock. Additionally, the investor, in exchange for the premium received for the sale of the put, has further limited their maximum gain. Before entering a short stock short put position, an investor must determine:

  • Their Breakeven
  • Their Maximum Gain
  • Their Maximum Loss

Breakeven Short Stock Short Puts

An investor who has sold stock short and sold puts against their position is subject to a loss if the stock price begins to rise. To determine how high a stock price could rise after establishing a short stock short put position and still allow the investor to breakeven, use the following formula:

Breakeven = Stock Price + Premium

Example:

An investor establishes the following position:

Short 100 ABC at 55

Short 1 ABC November 55 put at 4

Using the above formula, we get:

55 + 4 = 59

In this case, the stock could rise to $59 by expiration and still allow the investor to breakeven excluding transaction costs.

Maximum Gain Short Stock Short Puts

An investor who has established a short stock short put position has limited the amount of their gain even further by selling puts, because the investor will be required to purchase the shares at the put’s strike price if the stock declines.

To determine the investor’s maximum gain use the following formula:

Maximum Gain = Breakeven – Strike Price

Example:

An investor establishes the following position:

Short 100 ABC at 55

Short 1 ABC November 55 put at 4

The investor will breakeven at 59 found by adding the stock price of 55 and the option premium of 4 together.

Using the above formula, we get:

59 - 55 = 4

The investor’s maximum gain in this case is $4 per share or $400 for the entire position. The investor received a total of $59 per share by establishing the position. If the stock fell to zero they would still be required to repurchase the shares at 55 under the terms of the put contract. Notice that the sales price and the put’s exercise price are the same and the amount of the investor’s maximum gain is equal to the amount of the premium received.

Let’s look at a position where the sale price of the stock and the strike price of the put are different.

Example:

An investor establishes the following position:

Short 100 XYZ at 60

Short 1 XYZ November 55 put at 4

The investor will breakeven at 64. $64 dollars per share were the total proceeds received by the investor for establishing the position.

To determine their maximum gain using the formula above, we get:

64 – 55 = 9

The investor’s maximum gain is $9 per share or $900 for the total position.

Maximum Loss Short Stock Short Puts

An investor who has sold puts against their short stock position has only limited their loss by the amount of the premium received from the sale of the put. As a result, the investor’s loss in a short stock short put position is still unlimited.

Underlying Position Most Protection Some Protection & Income

Long Stock

Long Puts

Short Calls

Short Stock

Long Calls

Short Puts

FOCUS POINT!

It’s important to note that any time an investor wants the most protection, they are going to buy the hedge. If the investor wants some protection and income, they will sell the hedge.

Securities Exam Training

Index Options
Related Articles
  1. Professionals

    Series 99

    FINRA/NASAA Series 99 Exam Guide
  2. Professionals

    Series 24

    FINRA/NASAA Series 24 Exam Guide
  3. Mutual Funds & ETFs

    ETF Analysis: Vanguard Intermediate-Term Corp Bd

    Learn about the Vanguard Intermediate-Term Corporate Bond ETF, and explore detailed analysis of the fund's characteristics, risks and historical statistics.
  4. Professionals

    Tips on Building a Resume for a Private Equity Job

    Trying to land a job in the coveted private equity sector? Ensure your resume meets the stringent PE job requirements with these important tips.
  5. Investing

    The 8 Best Business and Finance T.V. Shows

    With so many talking heads to choose from, which is the right show for your business and money matter needs? We review the best shows on now.
  6. Personal Finance

    A Day in the Life of an Equity Research Analyst

    What does an equity research analyst do on an everyday basis?
  7. Investing

    Career Choice: Bulge Bracket Vs. Boutique Bank

    Bulge bracket banks offer higher salaries and prestige. But boutique banks are rapidly gaining market share and may offer better work/life balance and job security.
  8. Personal Finance

    Careers: Equity Research Vs. Investment Banking

    Equity research is sometimes viewed as the unglamorous, lower-paid cousin to investment banking. In this article, we compare the two careers.
  9. Investing

    7 Reasons You Will Make a Good Investment Banker

    Many seek at the door of investment banking, but few can enter. Possessing these seven traits will help you land a job and succeed in investment banking.
  10. Investing

    7 Reasons Investment Banking Is Not for You

    Even if you possess the education, experience and enthusiasm to land a coveted investment banking gig, here are seven reasons to find another career.
RELATED TERMS
  1. Investment Banker

    Someone working at an institution raising capital for companies, ...
  2. Series 6

    A securities license entitling the holder to register as a limited ...
  3. Clowngrade

    An upgrade or downgrade of a security for reasons considered ...
  4. Advanced Diploma In Insurance

    A qualification earned by insurance professionals and conferred ...
  5. Associate In Personal Insurance ...

    A designation earned by professionals looking for training in ...
  6. Fintech

    Fintech is a portmanteau of financial technology that describes ...
RELATED FAQS
  1. How does FINRA differ from the SEC?

    With all the financial organizations out there, knowing what they all do can be as complicated as knowing where to invest. ... Read Full Answer >>
  2. I have a CFA designation. Do I qualify for any exemptions from FINRA licensing exams?

    Unfortunately, a CFA charter does not qualify you for any FINRA exam exemptions. Read Full Answer >>
  3. How can I find out if my employer is a member of FINRA?

    To find out if your employer is a member of the Financial Industry Regulatory Authority or FINRA (previously the National ... Read Full Answer >>
  4. Am I qualified once I complete my FINRA certification exam?

    Even if you have completed your Financial Industry Regulatory Authority or FINRA (previously the National Association of ... Read Full Answer >>
  5. How does a broker decide which customers are eligible to open a margin account?

    Brokers have the sole discretion to determine which customers may open margin accounts with them, although there are regulations ... Read Full Answer >>
  6. How can an investment banker switch to a career in corporate finance?

    It's pretty easy for an investment banker to switch to a career in corporate finance. The career skills are easily transferable, ... Read Full Answer >>
Trading Center
×

You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!