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I have a cash-secured $4 Put Sell @ $0.41 through Robinhood; decided to do a low expense introduction to options.

When this contract was opened, I was credited the premium of $41 and had $400 set in collateral.

When I view the position through its monitoring services, the value has declined to $0.21 and the information displayed says that the market value is -$21 and my return is +$20. What I am not sure is to why this information is conveyed this way and what I should be doing with it. As I understood it, the cash-secured put strategy allows me to profit on the premium if strike is not breached. So why do I care if the premium of the contract is falling, and how is my return anything less than $41 if share price is above strike?

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If you sold a $4.00 put for 41 cents, that means that if you are assigned, you will buy the stock for a net cost of $3.59

Due to time decay and/or share price rise, your put is now worth 21 cents. That means that you are ahead 20 cents ($20 gain) and since this is a short put, the cost to buy it back is 21 cents so it is displayed as a current market value of -$21.

What you care about depends on what you are attempting to achieve. If your goal is to acquire the stock for $3.59 then you don't need to do anything. One of two things will happen:

  • XYZ is below $4 at expiration and you will accomplish the $3.59 purchase

  • XYX is above $4 at expiration and you will earn $41 with no stock acquisition

If your goal was some income rather than ownership of the stock then you could buy to close the put before expiration. Today, that income would be $20.

A short put is equivalent to a covered call. Both have an asymmetric risk/reward in that you bear all of the downside potential while receiving only small premium. If you want to own the stock at a lower price, no problem. If you are chasing income, consider lower risk strategies.

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  • Great explanation! Could you expand upon the scenario in which the put is worth say 50 cents? – pstatix Jan 26 at 17:53
  • Additionally, what would be some lower risk strategies? Buying calls that are deep in the money? – pstatix Jan 26 at 17:54
  • Comment Q1: There are 3 factors affecting your put's value. (1) As time passes, time decay reduces your put's value due to theta (time) decay. (2) The put's value also drops if the underlying rises in price. (3) The put's value increases if implied volatility increases and decreases if IV decreases. If the put has risen to 50 cents, it's due to some/all of the above. Want to acquire the stock at $3.59? Do nothing. Maybe your opinion of the underlying has changed and you want to limit your loss? Buy to close the put for 50 cents for a 9 cent loss. – Bob Baerker Jan 26 at 18:07
  • Comment Q2: Buying calls that are deep in the money is a lower risk substitute for buying the underlying. Vertical spreads (and equivalent long stock collar) evens out the imbalanced R/R of a covered call or short put. Feasibility depends on the implied volatility, the size of the B/A spread, the width between strikes and price of stock. If you want a more detailed explanation, ask a new question. – Bob Baerker Jan 26 at 18:19
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Since you're short the put, you'd have to buy it back in order to close your position before it expires. If the put currently sells for $21, then you would have to pay $21 to close your position. So in a manner of speaking you "owe" this amount. Since you received $41 in premium and you can close out your position by paying $21, you have a paper "return" of $20.

It's the opposite effect of buying an option, where your "return" is what you can sell it for minus what you paid for it. So if you had bought the option for $41 and it currently sells for $21, the "value" of that option is $21 and you'd have a return of -$20. Since you're short, the "value" is negative (you'd have to pay $21 to close the position).

If you hold this position to expiry and it closes out-of-the-money, you will "owe" nothing and your profit will just be your premium. If it is in the money you will have to either buy the put back to close your position, or let it settle, buying the stock at the strike price with your cash margin. Since you bought it for more than the current market price, you'd have an instant "paper" loss.

how is my return anything less than $41 if share price is above strike?

Remember that "return" is what you received in premium minus what you will owe if the option is exercised (or what it costs you to buy it back). Your return at the time of opening the position was 0 (ignoring any bid/ask spread) since you could just buy the position back for what you received for it. If the price of the stock has gone up since you sold it, then the put (all else being equal) would be worth less, so you can buy it back for less than you paid for it. Your "return" will never be more than $41, because the lowest possible value for the put is $0, and your only profit will be the $41 you received in premium.

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  • If it is in the money you will have to either buy a put to close your position, or let it settle, buying the stock at the market price to cover the put with your cash margin. If assigned, he will buy at the strike price not the market price. Also, buy a put could be misleading. He would have to buy his exact put to close not a put. – Bob Baerker Jan 26 at 17:43
  • @BobBaerker Thanks, fixed. I still have to think hard about the direction of short puts... – D Stanley Jan 26 at 17:49
  • You're welcome. Thinking short puts trips everyone up for a bit, perhaps because life conditions us in the positive direction. For example, buy component parts, build something like an alternator and sell it to car manufacturer who buys many parts and builds a car and sells it. Not many are conditioned in reverse, namely stealing the car and selling the parts :->). Shorting is just atypical for most. What still slows me up sometimes is buying negative delta which is negative vs selling negative delta which is positive). Easy to understand on paper but position application gets tricky. – Bob Baerker Jan 26 at 17:57
  • "...since the strike would be less than market...", wouldn't the strike be more than market if its ITM? Source: Selling Cash Covered Puts -> The Basics. – pstatix Jan 26 at 18:09
  • "If the price of the stock has gone up since you sold it, then the put (all else being equal) would be worth less, so you can buy it back for less than you paid for it.", but stock has gone down and the put is trending towards $0. I'm therefore able to buy it back for $21, which fits the idea of "less than I paid for it", doesn't it? – pstatix Jan 26 at 18:11

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