My 4 Basic Rules For Selling Puts (Naked
Or Cash Secured)
Rule #4
- Buy To Close The Sold Puts When The
Opportunity Arises
If I sell a put and the put premium
decreases to the point where, for 10% or
less of what I made I can close the put
and sell another one, I take my profit,
buy to close the put and consider where
or when to sell another put. If there is
less than a week to options expiry I
rarely close unless there is some
concern that the stock may fall and
place my puts in the money, making
assignment of the sold puts probable.
Closing early is the strategy I am using as of
January 2011 due to the stock market recovery having
pushed many stocks into what I consider over valued
territory. I call this strategy "the
cautious bull".
There are three main advantages to closing early.
1) The investor's capital is immediately available
for selling more puts or for taking advantage of
other opportunities.
2) By closing early the investor has locked in his
profit and eliminated the chance of the stock
falling, placing any sold puts in the money which
would most likely see an assignment of the stock.
3) By closing early, should another opportunity to
sell puts immediately arise, the investor may garner
more premium since there are additional weeks before
the next options expiry. To possibly explain better,
if I am in September and have sold October puts with
4 weeks to expiry and I close those puts at the end
of September, then November premiums are usually
higher since there are now extra weeks before
November options expire. If I wait until October
options expire, then there are fewer weeks before
November options expire which can often mean lower
option premiums.
Avon Products Inc., (AVP) since November 2010 has
fit Rule #4 perfectly. Below is the chart from
November 2010 to July 2011. Here are some of the
trades to show how Rule #4 was being applied.
November 3 2010 - Stock Price - $28.75 - Sold 10
Puts December $27 at .40
November 30 2010 - Stock Price - $28.55 - Sold 10
Puts January $27 at .75
December 7 2010 - Stock Price - $29.70 - Bought to
close Dec $27 puts at .04 - PUTS CLOSED EARLY
December 20 2010 - Stock Price - $28.66 - Sold 10
Puts February $27 at .75
January 4 2011 - Stock Price - $30.20 - Bought to
close January $27 puts at .07 - PUTS CLOSED EARLY
January 19 2011 - Stock Price - $28.50 - Sold 10
Puts March $27 at .70
February 7 2011 - Stock Price - $29.35 - Bought to
close February #27 puts at .05 - PUTS CLOSED EARLY
You can see from the above example, that by closing
early the investor locks in his profit and releases
his capital to again take advantage of selling puts
with additional time premium. For example by closing
on February 7 2011 rather than waiting for options
expiry on Feb 18, there is an additional two weeks
of option premium when selling puts into
March. If the investor waits until Feb 18 when
options expired, there is the possibility that the stock
might fall putting the option into the money and
making assignment of the shares an almost certainty. As
well, the March put premiums may be lower as there
is only 4 weeks to March expiry rather than six.
Summary
Those are my 4 basic rules for put selling. While
over the years of
investing, I have developed and tweaked a number of
different naked put or cash secured put strategies,
these 4 basic rules have remained constant.
A few things worth mentioning. Many traders feel it is not
worth selling a put for less than 1% a month, I
disagree. I sometimes sell puts for less than 1% a
month as part of a longer term strategy. I also
sometimes use margin to sell puts when I believe the
chance of assignment is low or there is a collapse
in stock values and I want to take advantage of
short term opportunities. Remember if you hold a lot
of sold put positions and the market pulls back, you
can end up being assigned on more positions than you
had wanted. Only place trades you are comfortable
being assigned on, should the stock tumble. Remember
Rule #1.
Selling a put for anywhere from .50 to a few
dollars will not assist if the stock tumbles and you
end up paying two, three or four times what you made
to buy back your put positions. Remember that selling
options is a strategy of small profits that compound
over time to create larger profits. Slow and steady
is the plan.
Investing isn't a race but a long term
commitment.
