A Cash-Secured Put is a strategy where an investor sells a put and sets aside the cash in the event they get assigned
You can use a Cash-Secured Put when you’re willing to buy a stock at a certain price and set cash aside to cover the purchase. You can employ the strategy for both generating income and acquiring assets. This strategy is considered one of the safer options strategies along with Covered Calls. Not to say it is without risk however.
As a quick reminder a Put gives the owner the right to sell the underlying at the the strike price. Selling the put obligates you to buy the shares. When you sell an option you receive cash, called a premium. When you have the cash to make the purchase ready, that’s what makes it “cash-secured”.
You can use this strategy to generate income in an upward or sideways market. In this example let’s say you have $10,000 in your account and sell a put on XYZ at a strike of $100 and receive $150 ($1.50 per share). You have enough cash to covered the purchase (100 shares x $100 = $10,000) and you receive $150. If XYZ remains above the strike you get to keep the premium. You could sell these monthly or on any other regular interval to generate recurring income.
Periods of low volatility or getting assigned the shares both could disrupt the flow of income.
Buying the dip
The assignment risk is part of the reason you may want to look for attractive stocks or ETFs. In the case of XYZ if you would like to buy it at it’s current market value, above $100, then you should love to buy it at $100. Selling puts on quality companies (however you choose to define that) does help mitigate some of the assignment risk because you don’t mind owning the shares. In some cases you might even prefer to get assigned.
You are obligated to buy in at a fixed price. This does expose you to the same downside risk as if you had bought the stock outright at that price. More accurately since you are receiving a premium it creates a break-even point. This point is slightly below the strike (Strike – Premium = Break-Even Price). You can use this strategy to put cash to work and enter (particularly large) positions at a specified price, while still having some upside potential. Your upside potential in this case is limited to the premium received.
On the flipside if XYZ price were to go down below the strike you could get assigned the shares. You are obligated to buy the shares at $100 regardless of the market price of XYZ . Obviously if XYZ has fallen well below that price, then you could be looking at a large unrealized loss.
Final Words
In summary, a cash-secured put is a strategy where you set aside cash to cover a short put. You can receive upside limited to the premium received. The downside is equal to the cost of the purchase (Strike x 100) – Premium. You can use this strategy can generate income in sideways or bullish markets. You can also utilized the strategy to acquire stock at a price lower than the current market value. As always before you make any investment decision, please, do you own research or speak to a professional. Contact us for a complementary investment consultation. Thank you for reading!
