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Long Put Option Trading Strategy Explained

Published on Thursday, April 19, 2018 | Modified on Monday, April 26, 2021

A Long Put strategy is a basic strategy with the Bearish market view. Long Put is the opposite of Long Call. Here you are trying to take a position to benefit from the fall in the price of the underlying asset. The risk is limited to premium while rewards are unlimited.

Long put strategy is similar to short selling a stock. This strategy has many advantages over short selling. This includes the maximum risk is the premium paid and lower investment. The challenge with this strategy is that options have an expiry, unlike stocks which you can hold as long as you want.

Let's assume you are bearish on NIFTY and expects its price to fall. You can deploy a Long Put strategy by buying an ATM PUT Option of NIFTY. If the price of NIFTY shares falls, the put option will now be in-the-money with an intrinsic value. This could result in unlimited profits. However, if the price of NIFTY rises, the put option will expire worthlessly and the maximum loss incurred will be the premium paid.

This strategy has limited risk and unlimited rewards.

How to use the long put options strategy?

The long put strategy looks like as below for NIFTY which is currently traded at Rs 10400 (NIFTY Spot Price):

Suppose NIFTY shares are trading at 10400. If we are expecting the price of NIFTY to go down in near future, we buy 1 NIFTY Put Option to implement this strategy.

If NIFTY falls as we expected, the put option will be in-the-money and we will make profits from it. There is a potential for unlimited profits in this scenario.

If NIFTY rises, the put option expires worthless. We lose the premium paid initially to get into this trade. This is also the maximum loss scenario.

When to use Long Put strategy?

A long put option strategy works well when you're expecting the underlying asset to sharply decline or be volatile in near future.

Example

Example 1 - Stock Options

Let's take a simple example of a stock trading at Rs 40 (spot price) in June. The option contracts for this stock are available at the premium of:

• July 40 Put - Rs 2

Lot size: 100 shares in 1 lot

1. Buy July 40 Put = 100 * 2 = Rs 200 Premium Paid

Net Debit: Rs 200

Now let's discuss the possible scenarios:

Scenario 1: Stock price remains unchanged at Rs 44

• Buy July 40 Put: Expires Worthless
• Net debit was Rs 200 which was paid as premium initally.
• Total Loss = Rs 200.

In this scenario, we lost total Rs 200 which is also the maximum loss in this strategy.

Scenario 2: Stock price goes up to Rs 50

Same as scenario 1:

• Buy July 40 Put: Expires Worthless
• Net debit was Rs 200 which was paid as premium initally.
• Total Loss = Rs 200.

In this scenario, we lost total Rs 200 which is also the maximum loss in this strategy.

Scenario 3: Stock price goes down to Rs 30

• Buy July 40 Put Expires in-the-money with an intrinsic value of (40-30)*100 = Rs 1000
• Net debit was Rs 200 which was initially paid to take the position.
• Total Profit = 1000 - 200 (net premium paid) = Rs 800

This profit rises as the price of the underlying asset fall further.

Example 2 - Bank Nifty

Market View - Bearish

When you are expecting a drop in the price of the underlying and rise in the volatility.

Actions

• Buy Put Option

Let's assume you're Bearish on Nifty currently trading at 10,400. You expect it to fall to 10,000 level. You buy a Put option with a strike price 10,000. If the Nifty goes below 10,000, you will make a profit on exercising the option. In case the Nifty rises contrary to expectation, you will incur a maximum loss of the premium.

Breakeven Point

Strike Price of Long Put - Premium Paid

The breakeven is achieved when the strike price of the Put Option is equal to the premium paid.

How to exit?

• Sell the put option and book profits.
• Sell ITM put option and OTM Put.
• Wait for the Put to expire

Simillar Strategies

Protective Call, Short Put, Long Straddle

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