Saturday, August 16, 2008

 

Naked Put Selling (Sold 2 GRMN 35 Puts @ 0.70 each)

The past few months have been tough when it comes to trading... trading options more so. The market is just too volatile and can be dangerous when you're buying calls and puts, since you could lose a lot of money in time premium.

I decided to try out a few other option strategies, I'll talk about one of them - Naked Put Selling. You can find some information on this strategy here.

Unlike the call and put buying strategies, where the maximum money you can lose is the premium you pay for the options, in this strategy, the losses can be very large if you're not careful. But the beauty of this strategy, and I guess any strategy that involves selling options, you can still make money, even if you're slightly wrong with predicting the direction of the stock. This was the case with my first trade using this strategy, the profits weren't huge (and in general the profits won't be as big with selling options than with buying options), but it was definitely fulfilling.

This trade wasn't perfect or even close to it, but I'm hoping to refine my entry as I place more trades. After GRMN announced their results, the stock took a beating. It was already down 13-14% and I thought the downside was limited and also since the move was so quick, I felt the option premiums might be the highest around that time. So instead of buying a call, I decided to sell a put. I sold 2 Aug 35 puts @ 0.70 each (the stock was a little above 39 at that time), thinking that GRMN won't go down that far. But I was wrong :) At one time it went below 34 and I was getting ready to close at least one position, but since there was some time premium still left on it, I decided to hold on and sell maybe after a good bounce. I was lucky enough to get that bounce and the option premium started falling. At one time I could have covered it when the premium went to 0.05, but I didn't, which could've been dangerous, since the stock fell down hard once again. I'll remember to close early the next time and not let a profit turn into a loss in order to get the last few pennies.

I like this strategy, since it makes you identify the support areas and if those areas are strong enough, you can sell a put below these areas. This is a good strategy for long term investors as well, since instead of buying stocks right away, you can sell a put below the price it is right now, and if the strike price gets hit at expiration, the investor buys the stock at lower price and keeps the premium, but if the strike price does not get hit, the investor keeps the premium. There are obviously huge risks involved with this strategy, so be warned.

Disclaimer: I've described this strategy for general informational purposes only. My opinions do not constitute a recommendation to buy or sell any securities and should not be considered as investment advice.

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