Selling put options is probably one of the most consistent option trading strategies, but it also carries some risk.
Are you thinking of selling put options for a monthly income?
If so, you have come to the right place. In this post, I will talk about selling put options, what they are, what you need to know, how they work, and the steps I use to sell them.
I’ll also show you what you should avoid at all costs MUST when selling put options. I promise you can lose a lot of money if you read over this, so stay tuned.
When you sell a put option, you commit to buying 100 shares of the stock when it closes in the money.
In other words: If the price of the underlying stock is below your strike price at expiration, you must buy 100 shares at your strike price.
Table Of Contents
Introduction to selling puts
- Introduction to selling puts
- Selling put ( example )
- How to sell a put
- The risks and rewards of selling a put
- Rewards
- How you should pick stocks to sell put options on?
- Conclusion
Introduction to selling puts
In my previous post “Selling Options for Income” I mention that options are just contracts that have rights and obligations.
For example, someone who buys a put option has the right to sell the option seller something specific at a certain price, the strike price, at a certain time before the option contract expires. In return, the seller of the put option collects an option premium, the return, from the buyer.
This premium is a guaranteed income that the put option seller keeps every time he sells options,
regardless of whether they are weekly, monthly, or even annual sales.
Yes, you, the put option seller, can repeat the trade over and over again, week after week, month after month, and keep the income no matter what.
But as with any other investment,
you need to know some basic things about selling weekly or monthly put options to generate revenue. In particular, it is important to understand the mechanisms.
the rights, the obligations, and the overall risk.
Typically, retail investors like you and I buy and sell put options on stocks like an index ETF, not commodities like Oil.
Selling put options is a guaranteed way to earn a weekly or monthly income,
and yes, it can be very profitable month after month
The important thing to remember is to only sell put options on high-quality stocks or ETFs that you really want to own, because you may be forced to buy them.
One of the things that puts are often sold on is the SPY
The SPY is an ETF. It is the most famous S&P 500 Index
Selling put ( example )
Sale of a put option on stock XYZ.
Strike price = $100
at expiration and closes at 99, you still have to buy 100 shares at 100 even though the price is at 99.
This is a super expensive strategy because in order to sell a put option, you actually have to have the collateral.
You’ve to buy 100 shares at your strike price. So if we use the example from earlier with the 100 shares of XYZ, you’ve to put down $1000 as collateral.
you can choose cheaper stocks to reduce the amount of collateral you’ve to deposit,
but you should only sell puts on a stock that you can actually hold 100 shares of.
It is essential to know the basics of how the sale of a put option works.
How to sell a put (selling put )
let’s show how simple it’s with a concrete example.
Since I comfortably hold 100 shares of Google, I’ll sell a put option on their stock.
by opening the option chain table, with an expiration date of 44 on December 16.
I can choose any strike price, but I usually choose a range of 10 to 20 delta (i.e. we’ve 10 – 20% success that the option will expire worthless).
For the put with a strike price of $76, we’ll receive $105 in premium.
It offers a pretty good premium, and the chances of Google actually dropping to 76 at this point are probably pretty low.
Every time I sell one of these puts, I get a $105 premium on that trade.
To put this on I’m going to have $7600 of collateral.
The $105 premium I get is paid to me up front, which means I can do whatever I want with that $105.
Personally, when I receive a premium, I like to use that money to buy shares in the company because they’re basically free shares.
The risks and rewards of selling a put
You can use it for anything you want, just be wise with it.
by signing this contract I commit to buying 100 shares of Google at 76 per share.
Or before December 16, if Google falls below 76, the buyer of this contract can execute it at any time.
and if it closes below $76 at the time of expiration, I am obligated to purchase 100 shares at $76.
On the other hand, if this option expires worthless, or in other words if Google closes above my strike price of $76.
Then I’m off the hook and…
- I don’t have to buy any stock.
- I can keep my premium
Then on expiration day, December 16, I can sell a put option for the next month.
I can simply repeat this process and collect premiums each month.
Think of it like dividend stocks, but instead of every 3 months or every year, depending on which stock you buy, you actually get paid once a month.
You’ve to be careful when choosing strike prices because eventually the price will go in the money and you’ll get paid for your contract.
At that point, you’ll have 100 shares of the company, and then you can sell a covered call option (read more about that here)
we explained exactly how to sell a put option and explained the basics.
Risk reduces
And last but not least, I want to give you a plan B.
Something else you can do to reduce your potential risk or make even more money selling put options. If you sell a put option and the stock price has increased significantly, your option will probably be profitable.
So you can always exit your trade by buying back the same option at a lower price.
But why would you want to do that? Well, you could then sell another option and repeat the process.
Rewards
let’s talk about how much money you’ll make with this options trading strategy.
You should expect 1-2% of the collateral you deposit every single month.
if you’ve $1000 in collateral and sell put options, you’ll earn $10 per month, which isn’t bad, but not great either.
If we go up a notch and you deposit $10000 in collateral, you’ll earn $100 per month, which is a little better.
When you finally have 100000 dollars, you’ll earn 1000 dollars a month.
With 1000 dollars a month I can pay off my car loan and its insurance.
Over the next year, if I continue to sell these Google options, I’ll make $12000 dollars a year, which is a 10% return on my original investment.
That’s only if Google continues to trade in its range.
How you should pick stocks to sell put options on?
When selling put options, choose a stock with a stable price.
Google is a great example. You can either choose a stock that trades relatively flat, like Disney, or you can choose a growth stock.
This way you get a little more premium every month.
The premium for an option depends a lot on the stock price. So if you’ve Jeff Bezos money and are able to sell puts on Amazon.
Calculate about 10000 dollars per month.
I assume you probably can’t put down $130000 (before the amazon split) for a single auction
But again, there are some solid growth stocks for less than $100. The most popular stock for this strategy is probably Disney.
If you’re willing to buy 100 shares of it, you can expect a selling premium of about $100 per month.
if you sell 4 put options on Disney every month, that’s probably enough to cover about 1/3 of your rent.
Always sell put options on stable stocks like banks or Wall Mart. These two stocks are under 100, so you can sell the premium with very little collateral.
if you aren’t interested in buying 100 shares of bank stock, I don’t blame you because bank stocks are pretty boring
Conclusion
So if you’re looking for something more interesting, I’d probably go through selling put options on Snapchat that cost about twenty bucks
Of course, the choice is totally up to you.
You should only sell put options on a stock that you’re actually comfortable holding 100 shares of at some point you’ll probably be filled for one of these orders.
You could also choose a company that you really like and believe will actually rise.
The only reason I sell Google options is that I like to hold 100 shares of the company.
I believe it’ll continue to grow, especially once the recession is over.