Bearish Option Strategies

Bearish Option Strategies

There are 6 common Bearish Option Strategies implemented by investors: Long Put, Protected Short Sale, Covered Put Sale, Short Call, Bear Put Spread, and Bear Call Spread.

1) Long Put: This strategy is implemented by simply buying a put option on a stock that an investor feels will decline in value. The Long Put is a popular strategy because of its simplicity and is used by investors who want a leveraged and limited risk method to participating in an expected decline in a stocks price.

The success of this strategy will depend on 3 conditions:


· Picking a stock that will decrease in price


· Picking an expiration month with a long enough duration for the stock price decrease to occur.


· Picking a strike price that will maximize the profit earned when the stock price decreases.

How to select an Expiration Month


Buy a near-term Put Option: The advantage is Leverage with fewer dollars at risk; however, the option will experience rapid time decay.


Buy a long-term Put Option: The advantage is getting more time for the stock to decrease in price; however, there is more money at risk since you must pay a higher premium for Options with longer durations to expiration.

How to select a Strike Price


Buy out of the money put options: This affords lower cost and more leverage; however, a larger move in the stock price will be required to exercise.
Buy in the money put options: This provides a better chance of making a profit but more dollars will be at risk since you must pay a greater premium.

2) Protected Short Sale: This strategy is implemented by purchasing a call option on a stock while shorting the stock. If a stocks price rises above the strike price of the call option the investor will exercise the right to buy the stock. In essence, the call acts as insurance against an increase in the price of the stock. Further, this strategy is often referred to as a “synthetic put” as it has a similar risk/reward payoff as buying a put option.

When is it used?

This strategy is used when an investor is bearish on an underlying stock but concerned about near term price risk. Usually this strategy is used when an investor has profited from a decrease in the value of a stock and wants to lock in their profit.

How Do You Choose a Strike Price?

Normally, the investor will choose an out of the money option. The closer the call options strike price to the current market price of the stock the greater the level of protection against a price increase, but the greater protection comes at a higher cost.

3) Covered Put Sale: This strategy is implemented by short selling a stock and writing (selling) an equivalent number of put options on that stock. Writing the put options obligates the investor to buy the stock from the option buyer if the stock price decreases below the strike price and the option buyer decides to exercise the option. Essentially, the covered put writer is foregoing the right to participate in the depreciation of the stock below the strike price in exchange for receiving the put option premium.

When is it used?

The Covered Put Sale is used by investors for 2 reasons:


a. The investor feels there is limited downside potential for the stock and as a result is willing to forego decreases in the stock price below the options strike price in exchange for receiving the options premium.


b. The investor wants some limited upside protection from shorting the stock which comes from receiving the put premium. The net cost of short selling the stock is lowered by the put premium amount received.

How do you choose the Strike Price?

The more bearish the investor is the further out of the money the put should be. By writing a deep out of the money put option the investor is able to participate in a larger decrease in the stock’s value; however, a further out of the money put option will provide a smaller amount of option premium.

4) Call Writing: This strategy is implemented by simply selling call options on a stock. The investor implementing this strategy will be expecting the underlying stock chosen to stay at or decrease below the strike price. Fundamentally, the call writer will profit when the stock price remains at or below the strike price as the call will expire worthless while the investor keeps the premium.

When is it used?

Call option writing is used by investors to generate additional income.

How do you choose the Strike Price?

Choosing a strike price will depend on the investors market forecast:


a. If the investor is bearish, writing call options at the money or in the money would be best as there will be more option premium offered for writing the call options.


b. If the investor is neutral to slightly bearish, writing an out of the money call option would be best as it is less risky. These will contain less option premium for writing the options but it is much less risky because the stock price will have to increase considerable for the option to be exercisable.

5) Bear Put Spread: This strategy is used when an investor is moderately bearish on a stock (the bearish equivalent of the Bull Call Spread). The Bear Call Spread is implemented by buying a put option while simultaneously writing a put option with a lower strike price. The options will be identical except for the strike price (use same expiration, same stock).

When is it used?

Bear Put Spreads are used when:


a. An investor feels a stock will decrease only slightly and is willing to forgo any depreciation in the stock below the strike price of the written put in exchange for the premium received for writing the lower strike price put.


b. An investor wants some limited upside protection from purchasing the higher strike price put option. This protection comes from the premium gained by writing the lower strike price put, which lowers the net cost of purchasing the higher strike price put option.

How to choose the Strike Price?

The strike prices used will depend on how bearish an investor is. The greater the bearishness of an investors forecast, the further out of the money and further apart the strike prices should be. When an investor is less bearish the strike prices used should be closer to the current market price of the stock and the strike prices should be closer together.

6) Bear Call Spread: This strategy is implemented by writing a call option while simultaneously buying a call option with a lower strike price. The options used will be identical except for the strike price (use same expiration, same stock).

When is it used?

Bear Call Spreads are used when:


a. An investor feels there is some limited downside for a stock but is not as confident as an outright call writer and as a result buys the higher strike price call to cap upside risk.


b. An investor wants additional income.

How to choose the Strike Price?

The strike prices used will depend on how bearish an investor is. The greater the bearishness of an investors forecast, the deeper in the money and further apart the strike prices should be. When an investor is less bearish, the strike prices used should be closer to the current market price of the stock and the strikes should be closer together.

Bearish Option Strategies Chart

Option Strategy	Market Forecast	Maximum Reward	Maximum Risk	Break Even Price
Long Put	Outright Bear	Strike Price – Premium Paid	Premium Paid	Strike Price – Premium Paid
Protected Short Sale	Outright Bear with near term concerns	Stock Price Received – Premium Paid	Premium Paid + (Strike Price – Stock Price Received)	Stock Price Received – Premium Paid
Covered Put Sale	Neutral to Bearish	Premium Received + (Stock Price Received – Strike Price)	Infinite	Stock Price Received + Premium Received
Short Call	Neutral to Bearish	Premium Received	Infinite	Strike Price + Premium Received
Bear Put Spread	Moderately Bearish	(Strike Price of L. Put – Strike Price of S. Put) – Net Premium Paid	Net Premium Paid	Strike Price of Long Put – Net Premium Paid
Bear Call Spread	Neutral to slightly Bearish	Net Premium Received	(Strike Price of L. Call – Strike Price of S. Call) – Net Premium Received	Strike Price of Short Call + Net Premium Received