Thursday, April 15, 2010

Bull Put Spread - Part II

In our last post we set the stage for the Bull Put Spread.  This credit spread is a favorite in a bullish market and can be used to create monthly cash flow.  This post will explain how to exit the trade based upon the direction of the stock.

1.  If the Bull Put Spread is completely Out-of-the-Money (OTM) and the stock remains flat, then the trader will let the position go to expiration.  Be careful if the Short Put is close to becoming ATM or ITM, or it could be assigned.  If the price of the stock is not close to the Short Put Strike - then let this position go to expiration.  At this point, each of the Puts will expire worthless and the full credit will be realized.  In other words, the Max Reward will be obtained.  One other bonus is that there will be NO commission on the trade.

2.  If the Stock is moving down, prior to expiration, the trader will want to consider exiting either out of the Short Put or the entire position.  If the stock drops below the Short Put Strike, then there is a chance of assignment.

3.  If for some reason the stock gaps or travels to a point below the Long Put, then more than likely the trader will be assigned and this is where the trader will need to exercise the Long Put, and after having been forced to buy the stock, can then sell the stock back into the market at the Long Put Strike Price.  This results in the Max Risk (or Loss), but is much better than having held the stock in most cases.

The Bull Put Spread can be found by using the same searches that would be done for a Covered Call or Naked Put and is an excellent way to provide monthly income.