Put selling is a strategy of small gains. When a put option is sold the profit is immediately realized. For example with Microsoft Stock at $31.95 the $32 put option for May 2012 is .70 cents bid and .72 cents ask. If I sell the $32 put option for .70 cents, I have earned my profit immediately. Whether or not the put option will be closed early or rolled out or rolled down, does not matter at this stage. The important point is that the profit has been made on the put selling trade.
Now the question becomes was it a good put strike to select and a good put option trade overall. Was the .70 cents earned through put selling, worth the risk of my capital for the one month period. If you review my discussion of put selling in my article looking back at 2011, you can see that I sell puts on dips against large cap stocks. If I am wrong when I have sold puts and the stock should move lower placing my sold puts in the money, they are immediately at risk of assignment. In other words the stock can be assigned to me at any time when my sold puts fall in the money.
In the money puts, means the stock has fallen lower than my sold puts. In my Microsoft Stock example above, if I sold the $32 May puts and the stock fell BELOW $32.00, then these are called “in the money puts” and I can be assigned shares at any time, not just at options expiry.
Put Selling Goals Are Key
An investor’s put selling goals are key to making a profit. My put selling goal is to ONLY sell put options against stocks I would own if I was assigned shares. Many investors goal is to NEVER own shares and to avoid being assigned shares at ALL cost when put selling. For example I have an investor friend who has sold puts against Microsoft Stock for more than 10 years. He has no interest in owning the shares. If assigned shares he does not sell covered calls, but places an offer to sell those assigned shares at .10 cents above the assigned price. He then continues with his selling put option strategy while waiting for the shares to be sold. Often it will take days to months for the shares to be sold. But he has a clear goal and a strategy in place to meet his objective.
Know Your Goal Before Selling Puts
Investors MUST make a decision BEFORE selling puts what their goal is. There is no point in thinking you want to own shares in a stock and sell put options only to watch the stock plummet and then decide you did not want to own shares after all. This was recently discussed in my put selling article on PBR Stock. Here an investor thought they would like the shares of the underlying stock until the stock sold off. But the decision to not own shares made after the stock has fallen will create huge losses when the sold puts must be bought back to avoid being assigned shares.
Instead consider my continually selling puts against Johnson and Johnson stock. Over the past few weeks I have written a number of articles about put selling opportunities in JNJ Stock. If Johnson and Johnson stock should fall while I am holding these puts would I be concerned? Not unless the result of the fall was a bankruptcy or an event of cataclysmic proportion because I have confidence in JNJ Stock and would definitely own the stock if assigned to me.
Can you say the same about your own stocks?
Another good example is Bank of Montreal stock. BMO Stock has not been the darling of investors for some time. The stock pays a hefty $2.80 annual dividend and has decent earnings each quarter. But the stock has not had much in the way of moves or buying interest among large institutional investors. You can see the past 12 months of BMO Stock trading.
Put Selling Strikes for BMO Stock for April 2011 to April 2012
However I like the stock, the dividend and the management as well as the direction they are trying to take their bank. I am holding many sold puts at both the $58 and $56 put strikes. I have done this for many months. As an investor if the dynamics of this company does not change but the stock fell, I would have no fear selling puts lower and accepting shares at $56 and $58 and collect the dividend while waiting for the stock to recover.
Put Selling And Stock Collapses
No matter how careful an investor, some events will force me to end up owning shares. Severe bear markets are a good example. In the bear market of 2008 to 2009 I ended up with Bank Of Montreal Stock shares at $48.00, $44.00, $38.00 and $34.00 being assigned while the stock plummeted to a final low of $24.05 on Feb 23 2009. I sold puts at $26.00 which were not assigned. In bear markets sometimes the panic is so severe and put premiums so high that if sold puts fall too deep in the money you can be assigned long before they expire.
Did I worry? No because I had wanted shares, liked the company and believed the end of the world was not quite yet at hand. But in a bear market panic many of my investor friends who do not want to own shares, lost thousands of dollars as they kept selling puts and then bought them back as stocks plunged further than they thought possible.
Put selling BMO Stock during the Bear Market Plunge of 2008 to 2009 shows the 4 strikes I wa assigned shares at.
The Value Of Goal Oriented Investing
A reader wrote me who had purchased AGQ ProShares and through covered calls had reduced his cost basis to around $95.00. Meanwhile though, AGQ which is a silver Ultra ETF, had fallen to the low $40’s. This reader had invested over $400,000 in AGQ ProShares and was looking for ways to continue to stay within AGQ but at the same time generate income and reduce his cost basis while waiting for silver to rise in value which will push AGQ Proshares toward his target price. Whether or not you would agree that silver is a good commodity to invest in, this reader shows how he had set a goal for himself when he started and desired to put in place strategies to earn income while waiting for his shares to reach his goal. None of his emails to me were full of worry or concern. In fact just the opposite. His emails were looking for option strategies that could be applied to reduce his cost basis, generate profit and keep him in his position until his goal is reached.
Because this investor had set his goal, done his homework in advance before commencing his investment, he was in a position to make decisions about what strategies to use and how to earn profit on his positions. There is no second guessing, no worries about capital loss, but instead a clear understanding that he does not want to relinquish his position and he wants to build capital while waiting for his trade to reach his objective.
Put Selling And NEVER Owning Shares
If therefore an investor’s goal is to never own shares through put selling, then that goal demands proper strategies be put in place. The first has to be establishing a stop-loss on the sold puts. Any investor who never wants to own shares but desires to earn income through put selling, must never take large losses.
There is no point is selling a put for $1.00 and then buy it back for $2.00 or more. That defeats the goal of put selling income. Therefore an appropriate stop-loss must be used to stop large losses from ever occurring.
Another important step must be closing sold puts early when the profit has reached a specific return. For example if the expectation is to earn 50% returns on every trade, then that is the established objective. The goal is to never be assigned shares. The objective is to earn 50% on every trade. Therefore an investor if sold a put for $1.00 would place his bid to buy to close at .50 cents.
The investors I know who sell puts with no intention of ever owning stock, places their order to buy to close, immediately after they have sold their put options. For example if an investor sold put contracts for $1.00, immediately upon being filled at $1.00 they place their order to buy to close these put contracts at .50 cents and they make it good until filled. It all depends on the percentage an investor is aiming for as a return. If the percentage was 75%, then he would put in his buy to close order at .25 cents.
The reason is simple. If the stock should run-up quickly, he may easily get a fill and his put option trade closed. This frees up his capital for more positions. It also allows him to resell put options against the same stock should it came plunging back down. As stock valuations fluctuate more than most investors realize, using buy to close bids and leaving them open is a great way to try to get a position closed early.
Many investors will adjust their buy to close offers as option expiry deadline approaches. Often as the options expiry deadline approaches the investor will offer to buy to close his position for less and continue reducing his offer as the final option expiry day approaches.
Another objective for those intent on put selling and never having shares assigned has to be selling puts far enough out of the money to avoid being whipsawed when the underlying stock moves around during the days leading up to options expiry.
These are just a few of the rules investors should adopt when selling puts against stock they do not want to own.
Put Selling Goals Summary
Setting goals to be successful at put selling is essential to have consistent monthly income and profit. The problem with put selling is that you are selling puts for small monthly premiums which can be wiped out by one or two bad trades. To minimize any losses an investor must have clear goals in place before starting the trade, whether they want to own shares of the underlying stock or not.
If goals are clear then it is easy to remain objective over the course of the trade which minimizes any loss and focuses on generating the highest amount of income or profit available. There are many put selling tips and articles available through the put selling index page. I suggest investors interested in learning more about effective put selling strategies take a few moments to browse them.