The bear put spread option trading strategy is employed when the options trader thinks that the price of the underlying asset will go down moderately in the near term.

Bear put spreads can be implemented by buying a higher striking in-the-money put option and selling a lower striking out-of-the-money put option of the same underlying security with the same expiration date.

 Bear Put Spread Construction Buy 1 ITM Put Sell 1 OTM Put

By shorting the out-of-the-money put, the options trader reduces the cost of establishing the bearish position but forgoes the chance of making a large profit in the event that the underlying asset price plummets. The bear put spread options strategy is also know as the bear put debit spread as a debit is taken upon entering the trade.

## Limited Downside Profit

To reach maximum profit, the stock price need to close below the strike price of the out-of-the-money puts on the expiration date. Both options expire in the money but the higher strike put that was purchased will have higher intrinsic value than the lower strike put that was sold. Thus, maximum profit for the bear put spread option strategy is equal to the difference in strike price minus the debit taken when the position was entered.

The formula for calculating maximum profit is given below:

• Max Profit = Strike Price of Long Put - Strike Price of Short Put - Net Premium Paid - Commissions Paid
• Max Profit Achieved When Price of Underlying <= Strike Price of Short Put

## Limited Upside Risk

If the stock price rise above the in-the-money put option strike price at the expiration date, then the bear put spread strategy suffers a maximum loss equal to the debit taken when putting on the trade.

The formula for calculating maximum loss is given below:

• Max Loss = Net Premium Paid + Commissions Paid
• Max Loss Occurs When Price of Underlying >= Strike Price of Long Put

## Breakeven Point(s)

The underlier price at which break-even is achieved for the bear put spread position can be calculated using the following formula.

• Breakeven Point = Strike Price of Long Put - Net Premium Paid

Suppose XYZ stock is trading at \$38 in June. An options trader bearish on XYZ decides to enter a bear put spread position by buying a JUL 40 put for \$300 and sell a JUL 35 put for \$100 at the same time, resulting in a net debit of \$200 for entering this position.

The price of XYZ stock subsequently drops to \$34 at expiration. Both puts expire in-the-money with the JUL 40 call bought having \$600 in intrinsic value and the JUL 35 call sold having \$100 in intrinsic value. The spread would then have a net value of \$5 (the difference in strike price). Deducting the debit taken when he placed the trade, his net profit is \$300. This is also his maximum possible profit.

If the stock had rallied to \$42 instead, both options expire worthless, and the options trader loses the entire debit of \$200 taken to enter the trade. This is also the maximum possible loss.

Note: While we have covered the use of this strategy with reference to stock options, the bear put spread is equally applicable using ETF options, index options as well as options on futures.

## Commissions

For ease of understanding, the calculations depicted in the above examples did not take into account commission charges as they are relatively small amounts (typically around \$10 to \$20) and varies across option brokerages.

However, for active traders, commissions can eat up a sizable portion of their profits in the long run. If you trade options actively, it is wise to look for a low commissions broker. Traders who trade large number of contracts in each trade should check out OptionsHouse.com as they offer a low fee of only \$0.15 per contract (+\$4.95 per trade).

## Bear Spread on a Credit

The bear put spread is a debit spread as the difference between the sale and purchase of the two options results in a net debit. For a bearish spread position that is entered with a net credit, see bear call spread.

Open an account at OptionsHouse.com and get 100 commission-free trades + free virtual trading tool!

Your new trading account is immediately funded with \$5,000 of virtual money which you can use to test out your trading strategies using OptionHouse's virtual trading platform without risking hard-earned money.

Once you start trading for real, your first 100 trades will be commission-free! (Make sure you click thru the link below and quote the promo code '60FREE' during sign-up)

Buying straddles is a great way to play earnings. Many a times, stock price gap up or down following the quarterly earnings report but often, the direction of the movement can be unpredictable. For instance, a sell off can occur even though the earnings report is good if investors had expected great results....[Read on...]

### Writing Puts to Purchase Stocks

If you are very bullish on a particular stock for the long term and is looking to purchase the stock but feels that it is slightly overvalued at the moment, then you may want to consider writing put options on the stock as a means to acquire it at a discount....[Read on...]

### What are Binary Options and How to Trade Them?

Also known as digital options, binary options belong to a special class of exotic options in which the option trader speculate purely on the direction of the underlying within a relatively short period of time.....[Read on...]

### Investing in Growth Stocks using LEAPSÂ® options

If you are investing the Peter Lynch style, trying to predict the next multi-bagger, then you would want to find out more about LEAPSÂ® and why I consider them to be a great option for investing in the next MicrosoftÂ®.... [Read on...]

### Effect of Dividends on Option Pricing

Cash dividends issued by stocks have big impact on their option prices. This is because the underlying stock price is expected to drop by the dividend amount on the ex-dividend date....[Read on...]

### Bull Call Spread: An Alternative to the Covered Call

As an alternative to writing covered calls, one can enter a bull call spread for a similar profit potential but with significantly less capital requirement. In place of holding the underlying stock in the covered call strategy, the alternative....[Read on...]

### Dividend Capture using Covered Calls

Some stocks pay generous dividends every quarter. You qualify for the dividend if you are holding on the shares before the ex-dividend date....[Read on...]

### Leverage using Calls, Not Margin Calls

To achieve higher returns in the stock market, besides doing more homework on the companies you wish to buy, it is often necessary to take on higher risk. A most common way to do that is to buy stocks on margin....[Read on...]

Day trading options can be a successful, profitable strategy but there are a couple of things you need to know before you use start using options for day trading.... [Read on...]

### What is the Put Call Ratio and How to Use It

Learn about the put call ratio, the way it is derived and how it can be used as a contrarian indicator.... [Read on...]

### Understanding Put-Call Parity

Put-call parity is an important principle in options pricing first identified by Hans Stoll in his paper, The Relation Between Put and Call Prices, in 1969. It states that the premium of a call option implies a certain fair price for the corresponding put option having the same strike price and expiration date, and vice versa.... [Read on...]

### Understanding the Greeks

In options trading, you may notice the use of certain greek alphabets like delta or gamma when describing risks associated with various positions. They are known as "the greeks".... [Read on...]

### Valuing Common Stock using Discounted Cash Flow Analysis

Since the value of stock options depends on the price of the underlying stock, it is useful to calculate the fair value of the stock by using a technique known as discounted cash flow.... [Read on...]

### From Around The Web

#### Options Strategy Finder

Outlook on Underlying:

Profit Potential:

Loss Potential:

Credit/Debit:

No. Legs:

Risk Warning: Stocks, futures and binary options trading discussed on this website can be considered High-Risk Trading Operations and their execution can be very risky and may result in significant losses or even in a total loss of all funds on your account. You should not risk more than you afford to lose. Before deciding to trade, you need to ensure that you understand the risks involved taking into account your investment objectives and level of experience. Information on this website is provided strictly for informational and educational purposes only and is not intended as a trading recommendation service. TheOptionsGuide.com shall not be liable for any errors, omissions, or delays in the content, or for any actions taken in reliance thereon.