Everybody always gets confused when you say you’re short puts. It’s a double negative, and it’s rightfully confusing. Let me explain.
When you’re short any asset, you profit from it falling in value. When a stock goes up, or stays flat, or doesn’t fall fast enough, the puts fall in value. So if you short them, you’re bullish. In my opinion, you’re less bullish, than if you actually owned this stock.
Yesterday, I was watching FSLR at $270. I thought to myself, “I want in, but that’s an expensive stock…I don’t want to pay $270 per share, but I would pay $210.” So, instead of putting in a limit order to buy it for $210 (and obviously never getting hit) I sell a put contract for someone to force the shares onto me at $210, in the future. They gave me $1.35 per share in exchange for me essentially selling them insurance to take the losses if the stock goes down lower than $210. BUT, since I’d buy it if the market took it to $210 anyway, then I really don’t mind having that downside. Infact, I kind of hope I get the chance to buy FSLR at $210, that’d be a treat.
There’s more perks. I don’t put up any cash, I only put up margin. My broker only requires me to keep 1/4 of the cash on hand to buy the shares should they hit $210. So, I have ‘invested’ $210/4 = $52.50 per share, and stand to profit $1.35 if FSLR doesn’t fall lower than $210. Now, it’s prudent to make sure you could make $210 per share available, if you’re forced to buy the stock. But I’d sell AAPL to get cash available if FSLR fell to $210. My point is, I can easily get a hold of the required $210, if the position goes against me. Now, if you can’t anti up the $210 per share, then you shouldn’t be doing this strategy. It can go horribly wrong if you don’t actually want to get assigned the shares at a cheaper than market price.
So, as of yesterday, there were 21 trading days, 30 days including the weekends. $1.35 / $52.50 = 2.6% in one month. That compounds to 36% per year…and I’m ‘invested’ in solar. While, I won’t make 200% a year, slow and steady wins the race. Its basically a good way to put excess margin to use. AND, the position can be closed early, if the stock moves up.
The nay sayers will tell you, that my upside is $1.35 per share, while my downside is $208.65. Wow, that looks horrible. But, you can’t think about it like this, because I make money, even if FSLR falls, so long as it doesn’t fall too much. Basically, if you’ve ever put in a limit order, and walked away, it’s the same thing – but my limit order lasts a month, and I get paid for leaving my order open.
Howard Lindzon hates this strategy, he calls it ‘assanine’. I’ve never heard him have a good reason for calling it that. Maybe he’ll chime in.
I plotted a 3-D Profit/Loss for this strategy, but I used today’s data. My short was for $1.35 per share yesterday, today they fell to $1.08, since the stock moved up. I expect them to expire worthless, or be worth $0.10 very soon.
Yes, I would have made more if I would have bought the stock yesterday, hind sight it 20/20. I also would have had to put up cash, and in my opinion I would have had more downside, downside I don’t especially like in FSLR from $270 to $210 – I leave that downside to somebody else. I’m really leaving what I call, ‘the most likely downside’ to somebody else. Ie, it’s more likely that FSLR falls from $270 to $210 than it is to keep falling from $210 to I don’t know, say $150.
