Cash Secured Puts For Bullish Markets | Connie Hill, CMT | 2-28-20 | Getting Started with Options

good morning welcome to another fun day in the market you guys it is a Friday morning we’re gonna talk about getting started with options and options strategies today we’re gonna focus on a strategy called cash secured puts and you might be thinking what should a person do in a kind of market that we’re seeing right now this might not be the first strategy that comes to mind but we’re going to talk about it and get through it let’s go ahead and go through some disclosures good morning to Raphael and Dave appreciate your friendly greetings here this morning yeah let’s go through some disclosures options are not suitable for all investors as the special risks inherent to options trading may expose investors to potentially wrap it in substantial losses past performance of any security or strategy does not guarantee future results or success all investing involves risk including risk of loss all right now you guys that have been here know that typically barb Armstrong has shown on Friday mornings but she decided to take off and go skiing in some of our excellent snow that we have here in our Utah mountains and her son came into town and she thought that would be a good thing to do and so I said you know I’d love to be with your class today then all right now she has an old series here of all the different option strategies I shouldn’t say all but some of the most common option strategies that people use in can use today we are on selling cash secured puts and you might be thinking Connie why are we teaching why are you teaching this class today on cash secured puts when it’s a bullish strategy and the answer is going to be you know you want to be ready to go in all market conditions and at some point we’re gonna you know we’re gonna settle the mark not that I can foresee the market but generally speaking we when we have a drop-off and we have a correction typically at some point it finds some support and starts to go back up again and so we’ll use history as an idea of what’s likely to happen in the future and so this strategy could come into play as you’re thinking about what strategies you can do once the market does settle down so today what we’re going to talk about is the basics of selling a put why some investors sell naked or cash secured puts it could be a potential income strategy or it can be used as a way to receive the stock at a little bit of a discount number three how to place a trade on the thinkorswim platform is what we’ll do using our sample rules and then we’ll talk about some next steps for you to complete all right let’s talk about the strategy of selling cash secured puts what does that mean alright when you go ahead and sell an option and in this case we’re talking about put options you create an obligation upon yourself to buy the stock now it doesn’t always happen that you have to buy the stock it doesn’t always happen that the stock is put to you but when you sell you have that potential obligation when we buy options we just have opportunities that’s we could do something if we wanted to but when we sell something we have that potential obligation and that obligation is at a set price which is at the strike price and the deadline is anytime up until the option expires okay so just kind of as our other options we’ve been talking about same type of thing where you have timeframes and strike prices now on a cash secured put essentially that means you need to have the funds in your account in the event that the stock is put to you okay if you bought if you went ahead and sold one put on XYZ stock and it were put to you you have to have enough money in there to cover that expense typically what’ll happen is you’ll receive a credit and we call that the premium that’s received and sometimes people use that as a way kind of mentally of keeping track of things if they have that credit kind of how that helps offset the cost of the price of the stock it’s not directly beat there people sometimes will just kind of do it in their head so selling a cash secured put it’s a strategy where an investor sells a put option to generate income right or buy a stock at a discount many times in very bullish conditions people can use this strategy if they want to to just generate some income coming in from that premium generate income is the goal by selling out of the money puts or get paid a premium to have the stock put to you if you don’t mind owning that stock and so typically the idea is if you hate that stock if you don’t like that stock if you don’t want any possibility of ownership of that stock it’s probably not a good idea to sell puts on it some people might not do that typically they’re gonna sell puts on stocks but if it has a little bit of a pull back they wouldn’t mind owning all right so we want to look for stocks that are bullish or possibly neutral in their trend well we’ll take a look at a couple of examples now when we’re talking about entry points when do you get in this type of a trade sell the put when the stock is bouncing up off support and some of you will know that as the floor right the place where the stock doesn’t drop down that typically buyers enter into the picture and that causes the stock to bounce up a little bit the entry might be different if the goal is to buy the stock at a discount all right so what does that mean it means what we’ll talk about some potential entries and that just means you may change it a little bit if you’re saying I really want this stock it also could change what strike price you decide to sell all right so what might be good candidate stocks and options for this put strategy well the stocks that appear to be in a bullish or a bullish neutral trend stocks with higher trading volumes when you have higher trading volumes that typically means you have a lot of options trading as well and so the bid-ask spread is a lot tighter and more efficient and as a trader we want things to be efficient for us and with that tight bid ask spread what does that mean you take the difference between the bid and the ask price and you see what that difference is and you divide that by the asking price and you’re looking for a very small number all right let’s talk about the potential benefits and the potential risks of the strategy potential benefits we’ll go through first the max gain is the premium or the credit you receive from selling the put so it’s pretty straightforward you know what it is selling a cash secured put can can produce additional income or a return that can be reinvested right when you receive that cash or premium into your account means of buying a stock and offsetting a portion of the purchase price with a credit received from selling the put right if your stock we’re gonna just use some numbers out of the air okay if the stocks $40 and you sold a put on it and you received a dollar 50 back you know it less what it is same kind of in your mind you can say well I’m getting the stock maybe taking those two variables together at 48 no 3850 right if it was a $40 to dock now what about the risks of this strategy every strategy is going to have some risks say a potential risk here is the stock is assigned to you and then it drops to zero all right now a stock in a very bullish market that is upward trending and as a it’s not that you can say that’s not gonna happen because it certainly could right however you just have to know that theoretically that could occur so the max loss is the strike price minus the premium that you received okay it’s comfortable to owning the stock if the goal is to purchase the stock at a discount some of the risk could be that the stock does not go up enough that you’re assigned right you wanted to be assigned in nothing takes off and it’s not assigned to you the trader might still make a profit on the sell of the put but would not end up owning the stock as intended so if you just really want to own the stock and you’re going to be real disappointed if you’re not put the stock and assign the stock then maybe another thing a trader might do is to just go ahead and buy it outright the strategy risks purchasing the corresponding stock at the strike price when the market price of the stock will likely be lower meaning you’re forced to buy it at your strike price and you know maybe the market price is down here but because you have that look contract locked in that obligation you have to perform it at the designated strike price hmm my little laughing is that see if I can get rid of it over here there we go well this is a disaster okay I’m not gonna annotate anymore on the screen today because my button is stuck okay unstick button there we go all right what you should think about considerations when selling cash secured puts okay the strike selection that’s going to be important to you and you have to strike a balance here okay between the size the the premium that you’re going to receive and the probability of success remember they have kind of a teeter-totter relationship when the probability is high the return is low when the return is high the probability is lower okay so you’re trying to find the balance for that expiration dates balance the return and the rate of time decay meaning if you want to receive that premium pretty soon and you want that time decay to work in your favor probably need to sell something within a window of time where the option is decaying in terms of its price versus something maybe you sell six months out and it’s not going to decrease for a while traders will likely have a bullish in a sideways trending market or a bullish to neutral outlook on the stock you need to be prepared to buy the stock at the specific price strike price prior to expiration all right you’ve got to mentally be prepared that that could occur all right let’s just go through the rest of the considerations that we’re going to look at some examples the account must have enough capital to purchase the stock if a signed portfolio allocation if a signed most traders want the total position to be enlightened with their maximum position size guidelines meaning if you really can’t afford to take on a hundred shares of XYZ stock don’t want to do that or maybe you can take on a hundred shares of XYZ stock that means maybe only selling one put not selling four or five puts or even three puts okay you want to be aware of upcoming events such as dividends and earnings announcements and a volatility is high many consider this a good time to sell as premiums are often higher right when we’re seeing some volatility in the market yeah those premiums skyrocket all right let’s go up to our paper money and we are going to look at this let me switch over here to let’s start on this chart actually go to our big chart and what we’re looking at here is the VIX it’s the volatility index you might have been paid a lot more attention to that this week then maybe you have in the past now let me get out of the way here a little bit right now the VIX hitting a high for the last couple of years at about 49 48 ok just today did that ran up there all right previous to that when you’re saying he is not what’s really higher is volatility low you want to look in the context of longer periods of time so if we look out here do you guys remember last quarter of 2018 and the market kind of peaked in October and then October pulled back November December and it wasn’t until the very end to December that the market had a bounce well during that period of time the volatility kept going high and high alright and that got up to about 35 on the on the VIX alright was that high at the time certainly it was high right because it was higher than this it was higher than those Peaks so yeah it definitely was higher so when that volatility index spikes we know our premiums are going up we know there are a lot more puts being bought than calls which is what the volatility indexes are showing us right that there’s fear in the marketplace because people are buying a lot more puts than calls all right I’m going to zoom in here just a little bit well I was going to try to zoom in here just a little bit there we go so you can see where it was here and that was about 35 36 and then where it is up here 49 so this week in explosion so volatility is everywhere all right let’s look at one other thing while I’m up here I want to show you some examples of stocks that actually have had trade had their trends sticking in there okay being able to stay put and not totally get thrown out with the bathwater like a lot of other stocks and so let me show you some trends so let’s look here and let’s just kind of look at six months rather than two years all right this’ll be more appropriate here notice this nice steady uptrend that 30 day moving average just gently going up here and we’ve had this massive sell-off week right what’s happened with this stock well this little stocks just kind of staying above support so when we’re talking about a potential neutral trend this is where what we’re talking about that it really isn’t doing a whole lot and it’s holding at a level of support all right so that’s ring central let’s also look here at let’s go to the trade desk it’s kind of similar except the last couple of days it was hanging in there pretty well until say Monday when it broke below the 30 day moving average and then I want you to see Netflix all right I think a lot of people are thinking they’re gonna be people at home stayin away because of the flu you know the coronavirus flu concerns so they’re gonna have to watch movies right to stay entertained so Netflix is not really getting beat up here a whole lot let’s just take a quick look at it okay 30 day moving average headed up for a good part of yesterday it was actually still bullish and or earlier today it was still watch but you can see it’s just really doing good about staying above that support level now one of the other characteristics we need to look for is we need to make sure the stock is liquid right we need to make sure the options are liquid let me just look at your comments and possible questions real quick here tempte says puts that we’re so last year are significantly in the red this week there’s a high possibility of that certainly count and maybe a majority of them maybe not all of them right but a majority of them and red Mike remembers I says I remember that I went through the market correction of 2018 yeah there are probably many of you that doing member that and remember a correction is when the market index in the asset class or asset that we’re looking at is down 10% from the high okay do we meet that condition right now yeah we certainly do okay but just kind of keep that in mind but let’s look here at Netflix and I’m going to zoom in here because this could be a stock that somebody a trader could consider maybe selling a put-on now we’ve talked about are these the ideal circumstances to maybe use this strategy some traders might other traders might say you know it really even though certain stocks might look like they could use that strategy right now because of the overall selling off state of the market they may choose to say I’m not going to put myself into any bullish strategies right now and this is certainly a bullish strategy okay so just recognize that but I needed to find at least one example to show you here today all right let’s come up here let’s go to the trade tab and generally speaking when people are selling some time in a strategy they may want to sell anywhere from 20 to 50 days worth of time so we’re going to need we’re going to need our little parenthesis here so we can see well let’s see the march option sir monthlies have 21 days so right at the bottom part of that that scale then we have some March I guess we don’t have March or April here we go we have to go next spot down here is gonna be right here at April all right where it has 49 days there could be some in the weeklies that qualify many times the weeklies do not have a lot open interest okay let’s just do a comparison we’re looking at March here and let’s go over here to the put column that’s when we’re only gonna focus on here is our open interest column here we’re seeing thousands of contracts okay if I were to open up the March 13s that are just expired in two weeks and they don’t really to fit the time frame but I want you to see ya the there are some strike prices that do have some some nice number of contracts but not nearly what we’re seeing for the thousands in almost every single strike price and you want to be a little teeny fish in the big sea of contracts okay you don’t want to see a situation where maybe there’s 50 open interest contracts and you go out there and you do five of your own right because that means you’re a big part of the sea and you just want to be a little part of the scene so we could have an opportunity here when we’re selling out of the future we’re going to go ahead and use the March contracts here okay typically people say well if we want to sell out of the money how far out of the money do we want to sell and that’s where we have that balancing act right between reward and time frames so some people might look if they’re a little bit more aggressive they might look in maybe a third high thirty to forty Delta range if somebody’s wants there to be a high probability but at least a decent return they might be somewhere in the 30s right now because volatility is so high somebody that seeks a potential return at a particular level like they want to see a 30% return or something like that they could possibly in our current market conditions go out a little bit further out the money she’s a Delta that’s a little lower and still bring in that same type of return let’s do an example I’ll show you let’s suppose maybe you’re a person that you say you know if you can sell something around the 30 you’re you’re happy with that and so let’s go ahead and cue this up let’s go ahead and sell the 340 strike price now I do want to comment here on the bid-ask spread when markets aren’t quite as volatile sometimes that spread will shrink down well markets are volatile sometimes we see that that spread get wider and you want to just make sure that you’re not getting caught up in something that has too wide of a spread that it makes it hard for you to have success in the trade so I want to just show you real quickly how do you gauge that to determine it so we might could look at the 340 options here we right now we have a 40 cent spread it’s kind of been jumping around between 40 and 50 but right now it’s 40 cents so you take the difference between the bid price and the ask price in this case I’ll just use the 40 cents that it has kind of been using all right we’ll go 40 cents divide that by the ask price all right the current ask price yes 1250 that’s going to come back to a percentage this percentage is 3.2 percent and so that’s basically saying you have to give 3.2 percent to the mat the market maker for matching you up with somebody and is you want to decide is that fair is that not fair the lower the number the more fair it is and you made for yourself set a threshold where you say I am NOT going to go above X percent for some people that’s about 10% for other people it might be more like 7 or 8 percent if you’re somebody that is only trading very very liquid ones some of you might several that you say you know it’s got to be less than 5 percent or 5 percent or less just reading Mike’s comment here indent trade options in the 2018 market Kretsch and I’m still trying to keep learning options trading good for you drab Mike it it’s a process yeah and definitely practice when you’re practicing these strategies do it in paper-money all right so let’s get to it we’re gonna sell I’m going to just click on the ask price so we have something here we’re looking at about eleven seventy now what if somebody said you know I’m willing to take a little bit less money in have a little bit higher probability of trade and what if somebody said let me change this order down here to a blast all what if somebody said you know I wouldn’t mind having a twenty-two Delta even a twenty-four Delta so that the probability of the likelihood of that trade working out successfully is higher but you don’t get paid as much alright could that be the case yeah somebody definitely could have that be the case you could also say put some rules in place that say when I get X percent of the premium when it’s melted away whether that means there’s only fifty percent left or seventy percent laughter eighty percent right that you just say hey I am NOT going to hold this trade deal expiration I’ve got the majority out of it let’s go buy it back and be finished so for our purposes today what I’ll do is let’s get rid of eleven fifty because volatility is so high and we saw that on the VIX that this is the one we want to put through but let’s do this let’s do first trigger sequential and put in a buy back order that says essentially when you get a certain percent out that you’ve locked it in we’re gonna go buy it back so we’re going to create an opposite order here I’m just going to do one contract and let’s go back to our calculator here real quick when the price of the option gets down to let’s go with say seventy five percent today we’re starting out here at 8:15 if we divide that by or multiply that by I should say point 25 that means we all have got 75% and it looks like I made a mistake on the calculator we’ll try that one more time eight point one five times point twenty five there we go then the price of the option will be down to around two dollars three sounds all right so I’m just going to replace that and we’re going to make it good till cancelled and the system smart enough to know that when it’s the price of the option dropping that it’s it’s not a stop is basically to lock in our gains and let’s go ahead hit confirm and send just make sure review it make sure it represents what you want notice if there’s any transaction fees if you have a particular portfolio you want to put it in go ahead and do that I have some for some different classes but I’m just gonna put this to my regular alright and then one last thing even though many times people will do this based on probability sometimes it’s nice to see on the chart or that strike prices and this is something typically I’ll do before I submit it but 325 is about right there it hasn’t been down to 325 sounds January 23rd so over a month ago couldn’t get there it could get there with our market the way that it’s acting but this is one of the few stocks that seems to be hanging in there right and keeping its trend Mike says just have to have the write it out motto good for you Mike alright now for you what would your next steps be well number one you go to the course on the website and choose trading options alright and then go ahead and start working in this case this particular chapter about cash secured puts and setting up cash secured puts and that information to reinforce what we’ve talked about here today or for some of you either at a baseline okay of understanding and then you can choose a number of webcasts that will support it all right one you could watch this webcast again if we’ve covered information and you’re kind of feeling like some of its going a little too fast go ahead and review it you could if you wanted on to talk about cash secured puts there’s a webcast on Mondays at 3 p.m. Eastern that goes over cover calls and cash secured puts that on Tuesday 3:00 Eastern again there’s another one called options learning strategy selection and both of those could be entirely appropriate for you to help you reinforce what we’ve learned here today what you’ve learned so what we did we learn the basics of selling a put we talked about why some investors sell naked puts or cash secured puts either get the stock or bring in premium we went over an example how to do that on the paper money platform and then the next steps for you would be to enhance your knowledge and skills in selling cash secured puts so if some of you are getting needing the information kind of to set your baseline you’re not comfortable to go to paper money yeah but that’s understandable if you feel like you’ve got it and you’re ready to do do five practice traits in paper money granted right now it’s really hard to find some upper trending stocks I know that because it took me a minute to find some upward trending stocks yesterday afternoon and this morning all right in closing here I need to remind you that in order to demonstrate functionality of the platform we need to use actual symbols however TD Ameritrade doesn’t give recommendations or determine the suitability of any security or strategy for individual traders any investment decision you’re making in your self-directed account it’s solely your responsibility now coming up we’re gonna have like a half an hour break all right and then at exactly 12:30 Eastern Time Mike Fairborn is going to talk about actively managing a long-term portfolio that could be entirely appropriate for some of you that do have longer term portfolios in our market environment now I do appreciate you being here today I expect barb probably is not gonna have another ski day but you never know with our great snow in Utah all right and she’ll be on to the next strategy next week I appreciate you being here this week I’ll see you in another webcast buh-bye you

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