Bull-Put Credit Spreads are one of the more common multi-leg trades that InvestorsObserver analysts utilize. Spread trades are positions where we buy one option and then sell at least one other option. Credit spreads receive credit up front because the price of the sold option is greater than the price of the bought option. Bull-put means that this strategy should be used with a bullish opinion of the underlying stock and that this trade utilizes put options.
In a bull-put credit spread, the investor sells a put at one strike price and purchases another put at a lower strike price in the same month on the same underlying issue for a net credit on the trade. Typically, both of these put options will be out-of-the-money when the position is established.
The maximum amount at risk for a credit spread is defined by the difference between the two strike prices minus the original credit. Depending on your account type and trading level, your broker may require that these trades be cash-secured or they may allow you to put up an existing equity position or use margin as collateral. For more details about your situation, please contact your broker directly.
If the stock is above the higher strike price at expiration, then both options will expire worthless, the investor takes no further action, and the credit from the trade becomes a bankable profit. That initial credit is the maximum profit on this type of trade.
The worst case for a bull-put credit spread is if the underlying stock finishes at expiration below the lower put’s strike price. In this case, the sold put will automatically be assigned, forcing us to buy the underlying stock at that strike price even though the market price for the stock is lower. The bought put will also automatically exercise, letting us sell the stock for the lower strike price. The end result is that the investor will have a net debit equal to the difference between strike prices.
In between these two cases is a middle path that happens only when the underlying stock finishes at expiration between the strike prices of the two puts. In this case, the sold put is assigned, but the bought put expires worthless. This results in a stock position that requires a boatload of cash to keep or much more likely we will need to sell the stock at market prices as soon as possible. The market price will almost certainly be lower than what we bought it for.
Our analysts strive to exit trades that might be in trouble before expiration passes and forces our hand. To exit a bull-put spread, buy back the sold put and sell the bought puts for a total debit.
A similarly-structured trade for an underlying stock with a bearish outlook is a bear-call credit spread.
InvestorsObserver analysts usually look for bull-put credit spread trades where the sold put is 10% or more out-of-the-money, so that our positions make a profit if the underlying stock rises, stays flat or even drops by a little. Trades with this amount of protection often target returns of 5-10% in just two months for annualized returns (for comparison purposes only of 30-60%.