Bear Put Spread & Put Option Comparison
Bear Put Spread
The Bear Put Spread is liked by many traders more than simply buying a put option for two main reasons:
- Reduces the capital spent/higher breakeven price.
- Is a strategy than incorporates reality.
Lower Cost, Lower Breakeven Price
Because a bear put spread involves the selling of an option, the money required for the strategy is less than buying a put option outright. Moreover, the breakeven price is raised when implementing a bear put spread. To illustrate the cash outlay and breakeven prices for a bear put spread and just a put option are given next:
- Bear Put Spread: cost $35; breakeven price $47.15
- Put Option: cost $44; breakeven price $47.06
On a percentage basis, the bear put spread is over 20% cheaper than the cost of just purchasing a put.
The second advantage/disadvantage of a bear put spread is that this strategy considers the reality and probabilities of a potential move. Theoretically, the buying a put strategy has great profit potential. However, successful option traders generally focus on probabilities and take into consideration reality. A stock move from $50 to $45 is a 10% move. This has to occur in the time before expiration, in the example 30 days. In order for a rational options trader to buy just a put, the option trader has to expect a stock move lower that is greater than 10% within 30 days.
In conclusion, the bear put spread is a great alternative to simply buying a put outright: the bear put spread reduces the distance of the breakeven price and decreases the capital required to be bearish on a stock, it also is a strategy that takes into consideration realistic expectations.