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selling puts


racemize
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I generally just buy stocks at prices that I like, and haven't ever done an options trade, but I've been reading about selling puts as a long term strategy in a few different articles.

 

http://seekingalpha.com/article/296867-enhanced-income-strategy-for-colgate-palmolive

 

http://finance.yahoo.com/news/merits-buying-calls-vs-selling-143300305.html

 

Does anyone employ this strategy, e.g., when prices aren't as great as you'd like them and you have cash around?

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I generally just buy stocks at prices that I like, and haven't ever done an options trade, but I've been reading about selling puts as a long term strategy in a few different articles.

 

http://seekingalpha.com/article/296867-enhanced-income-strategy-for-colgate-palmolive

 

http://finance.yahoo.com/news/merits-buying-calls-vs-selling-143300305.html

 

Does anyone employ this strategy, e.g., when prices aren't as great as you'd like them and you have cash around?

 

I would only sell puts on stocks that are already cheap, or when there is a lot of fear, etc.  Generally I think it isn't a great strategy to sell puts if you wouldn't buy the stock outright.  This is because the puts are probably underpriced.  Think about it this way: would you sell insurance against hurricane damage if you were the only one who thought the chances of a hurricane were higher than everyone else?  This is basically what you are doing when you sell puts on stocks you think aren't cheap.

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Well my thought was for buying a relatively stable company (e.g., BRK or CL similar to the article) where I have a price that I'm willing to buy and hold for a long time that is near, but not at the current price (e.g., 70 vs 75) and then sell puts until I got the price I wanted.  I wasn't thinking of doing this with a company that might have significant issues (e.g., BAC right now). 

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it depends how well capitalized you are. selling puts is fine until the worst thing you can think of happens. then they are a disaster.  For example, do you have a large amount of cash sitting around relative to your positions in stocks?  Do you have few cash liabilities that might come due at the same time stocks are put to you?

 

Only sell puts if you can afford to pay cash for all the stock that will be put to you if they are exercised. the other issue is that when it's most attractive to sell puts, it's most attractive to simply buy stocks outright.

 

I was definitely going to have them covered--I was only thinking of doing this sort of strategy when I was unable to find deals and I had cash around, but it does make sense that I probably wouldn't be paid much for the puts.

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it depends how well capitalized you are. selling puts is fine until the worst thing you can think of happens. then they are a disaster.  For example, do you have a large amount of cash sitting around relative to your positions in stocks?  Do you have few cash liabilities that might come due at the same time stocks are put to you?

 

Only sell puts if you can afford to pay cash for all the stock that will be put to you if they are exercised. the other issue is that when it's most attractive to sell puts, it's most attractive to simply buy stocks outright.

 

I was definitely going to have them covered--I was only thinking of doing this sort of strategy when I was unable to find deals and I had cash around, but it does make sense that I probably wouldn't be paid much for the puts.

 

I think selling puts is a good strategy for a value investor. but just make sure you have the downside considered.  People have blown themselves to smithereens by selling puts. I've had the best luck selling otm long dated puts on strong undervalued blue chip companies that are building value over time. You can take in more premium with the long term put.

 

Hi Peter -

Can you give an example (with numbers) of this (real or hypothetical)?

Thanks.

-M

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Hi Peter, I was thinking of doing smaller time period ones (e.g., 1-2 months) consecutively rather than longer ones.  How does a longer contract versus several smaller ones compare over time, including fees? 

 

I'd also love an example if you have time.

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Last month I sold some jan2013 65$ puts on BRK-b for 6$. Its a first experience for me, I see that as some kind of selling an insurance.

 

I sold those puts on a stock I would like to buy at that price (65-6=59$). So I dont wonder to be excercise.

 

I have a margin but dont like to used it. In that case, Im being paid to have a part of my margin that garantee that I have the money to buy the stock in case the puts were excersice.

 

In that case, I think the risk is minimal. 

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Last month I sold some jan2013 65$ puts on BRK-b for 6$. Its a first experience for me, I see that as some kind of selling an insurance.

 

I sold those puts on a stock I would like to buy at that price (65-6=59$). So I dont wonder to be excercise.

 

I have a margin but dont like to used it. In that case, Im being paid to have a part of my margin that garantee that I have the money to buy the stock in case the puts were excersice.

 

In that case, I think the risk is minimal. 

 

The BRK.B options seemed to be priced as if this is August 2008.

 

http://finance.yahoo.com/q/op?s=BRK-B&m=2013-01

 

I still have an order (short) in though! :)

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Last month I sold some jan2013 65$ puts on BRK-b for 6$. Its a first experience for me, I see that as some kind of selling an insurance.

 

I sold those puts on a stock I would like to buy at that price (65-6=59$). So I dont wonder to be excercise.

 

I have a margin but dont like to used it. In that case, Im being paid to have a part of my margin that garantee that I have the money to buy the stock in case the puts were excersice.

 

In that case, I think the risk is minimal. 

 

The BRK.B options seemed to be priced as if this is August 2008.

 

http://finance.yahoo.com/q/op?s=BRK-B&m=2013-01

 

I still have an order (short) in though! :)

 

I've never traded options, but am I reading the table right?  People are buying puts for BRK for strike prices less than 50? 

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I agree with folks that you definitely need to keep the cash in reserve to buy the notional position. Things tend to evolve in ways that you can hardly forecast when you enter such position. Even some blue chips that may look like very low risk could do things such as large acquisitions, run into a scandal or you could be selling these puts just before a market meltdown.

 

Two problems with selling puts is that you need to follow the company as well as if you owned the stock outright and you will not participate in the full upside if you are right. Due to this, I am exploring the possibility of buying half my wanted position in stock and half via selling puts which eventually may result in my acquiring my full exposure.

 

The reasoning is that I tend to get excited when I discover an opportunity and rush to buy in my full position. More often than not, the stock drops another 10, 20% or more after getting in. Sometimes I also discover new things that I did not find in my original research or that I did not consider as important as I should have. So this strategy would allow me to stage my purchases and reduce my cost basis.

 

However, it is not bullet proof. If I am right and the market agrees with me quickly. I will regret not buying the full position. The put "income" will look like pocket change. Also, I am still committed to buy the other half, if the price drops, and if things evolve way worse than I expected, I am still screwed. I would have been better to just buy half, wait a few months to see if everything goes per plan and buy the second tranche at possibly way lower prices than the strike minus the premium or not at all.

 

Cardboard

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Last month I sold some jan2013 65$ puts on BRK-b for 6$. Its a first experience for me, I see that as some kind of selling an insurance.

 

I sold those puts on a stock I would like to buy at that price (65-6=59$). So I dont wonder to be excercise.

 

I have a margin but dont like to used it. In that case, Im being paid to have a part of my margin that garantee that I have the money to buy the stock in case the puts were excersice.

 

In that case, I think the risk is minimal. 

 

The BRK.B options seemed to be priced as if this is August 2008.

 

http://finance.yahoo.com/q/op?s=BRK-B&m=2013-01

 

I still have an order (short) in though! :)

 

I've never traded options, but am I reading the table right?  People are buying puts for BRK for strike prices less than 50? 

 

I'll chime in but I want to make it clear that I am NOT an options expert and have been writing puts and calls for only a short period of time.

 

But, as I understand it, people/institutions will often buy WAY out of the money options for black swan and/or lottery ticket purposes (and hedging too, I suppose).

 

I don't mind writing for those buyers but I don't make it a habit and I keep it at a single digit percentage of my portfolio. I also like to sell puts (or write covered calls) on ETFs. Berkshire is one of the few individual companies I'd feel safe writing options on.

 

 

 

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Hi Racemize,

 

Selling naked puts, as Cardboard has mentioned, requires you to hold alot of cash/margin.  Selling puts has been a disaster for me, so much so that I have removed it from my strategy forever.

 

Each time I have sold puts I have been hit with a downtrend in the stocks I have sold puts on, simultaneous with a market downtrend.  The result has been buying back the puts at substantial losses.  They eat up your cash and then your margin as the stock drops until you are the proud owner of a stock that continues to drop further.  The problem with this is that other things tend to go on sale at better prices than the stock you have just bought from your puts. 

 

The few percent a year I can earn is more easily made elsewhere as dividends or deep value with alot less opportunity cost.  It just doen't work well with my style.  If I make good calls on value stocks I easily exceed 15-20% per year which is better than I will ever make writing puts and tying up my capital.  I can see their place in moderation, just not for me. 

 

Put writing has probably cost me -30% over the past 4 years.  Obviously other members are better at it than I am.  I do much better with Leaps as far away timewise as I can get.  IMHO.

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Racemize,

 

Make sure that you weigh in the risks as described by Uccmal very carefully. Then go in slowly to experiment for yourself if you still want to do it afterwards.

 

The second article that you highlighted finishes with a statement that Buffett is one of the largest put seller in the world or as some endorsement. Well, selling puts on world markets is a lot different than for individual companies and even now, looking at the European situation, who knows how that will end up. So it is tricky business even for the best.

 

Another strategy that I am exploring for put selling is when you are looking to sell a stock and it has not quite reached your price. If you subscribe to the logic that if you hold something that it almost means willing to buy it at this price. Then selling the stock and a slightly lower strike price put with short expiry may make sense. You were willing to hold the stock at that lower strike price, so why not now? You could sell a put with a 1 or 2 month duration, get the premium or boosting your effective selling price and the worst case is that you end up back with your original stock below the strike price. The risk is always that you got that extra small boost and the market drops sharply right after and other deals may now be much better than your stock. You can't buy these deals because your cash is now tied up in your original company.

 

There is just no free lunch. All these articles about options never highlight all the possibilities and consequences of these strategies.

 

Cardboard

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Thanks for all the input--I doubt I'll ever really do much of the options stuff (perhaps LEAPs at some point) and will just buy when I think the current price is appropriate, but this particular strategy looked interesting.  I'll definitely start small if I do though.

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