Bull Put Spreads / Bear Call Spread

Discussion in 'Trading' started by dlcmh, Jun 2, 2001.

  1. dlcmh


    I'm very familiar with the theoretical aspects of credit spreads, but would appreciate insights in to the practical side of trading credit spreads.

    Assuming it's now 2-Jun-01 and a stock is currently at 21.00. I feel slightly neutral to bullish about it and initiate a 30/20 bull put spread for a net credit of 8.00.

    I have two questions regarding the situation at expiration. First, if the stock hovers in the 20.00 to 30.00 range, how LIKELY would I be assigned on the short put?
    Secondly, if I was assigned on the short put, how would I know about it, and would I then have a window of time to exercise my long put? I'm currently holding an account with Interactivebrokers.

    I also welcome feedback on what generally works with credit spreads, in real life. For example, what's the success rate of ITM/OTM vs OTM/OTM credit spread positions?

    Thanks everybody.
  2. dlincke


    If you're just neutral to slightly bullish on the stock I don't see why you would want to sell a deep ITM spread. In addition in your example you'd be buying much more time value than you're selling since the 20 put is ATM while the 30 put is deep ITM. Chances that you are going to be assigned on that deep ITM put are considerable especially if it should lose all time value or if a dividend payment is upcoming. If you get assigned you will find out about it with that day's account statement and you'll be long the underlying in your account the next morning.
  3. dlcmh


    Thanks for the reply dlincke. I guess the risk/reward of 200 vs 800 looks almost too good to pass up, unless I'm missing something here. OTM/OTM would be a better idea, except for the fact that the risk/reward tends to be something like 400 vs 100 most of the time. I was thinking of banking on the fact that most option buyers do not exercise their options (I read that somewhere). I'm also curious to know whether DEEP ITM options have a higher, lower or equal risk of being assigned vs near-the-money options.

    Thanks again.
  4. dlincke


    The best risk/reward doesn't help you much if the reward part of the equation is unlikely to materialize as is the case in your example. You also have to consider the odds of the desired outcome.
  5. def


    regarding notification, options get exercised after the close thus you will not be able to do anything about it until the following day.

    regarding exercise/assignment. One would exercise a put if the interest earned on the short stock is greater than the cost of holding the put. Professionals exercise puts everyday. The highest liklihood of getting a deep in the money put assigned to you is the day after a stock goes ex-div.

    On the stock you discuss a number of factors, such as interest rate and volatility (is the 30 put a 100 delta) will determine the chance of getting assigned.
  6. dlcmh



    Just to check my understanding on assignment/exercise. Assuming my short put was assigned to me on expiration (Friday), does it mean that I will only know about it on Saturday? Would I then be able to exercise my long put on that same Saturday?

    To anyone reading this, I would welcome any comments specific to the Interactive Brokers system.

    Thanks very much.
  7. dlincke


    Assuming you're talking about front month options you can infer how likely you are to be assigned by how much the option is ITM at the close on expiration Friday. If it is ITM by 75 cents or more you are guaranteed an assignment since the OCC will automatically exercise it even if not requested. If it is less ITM than 75 cents the only reasons that you would not be assigned is due to oversight on the part of the counterparty or if exercise fees outweigh the gain. To have your long put exercised simultaneously you'd have to request exercise with IB by 4:30 pm EST that Friday. Otherwise you'll have to wait till the close of Monday's trading.
  8. def


    There is a limited time after the close to issue an exercise instruction. If the deadline is missed, the exchange will not allow it. Thus the answer to your question is that you would not be able to exercise your option on Saturday. The rules from the IB site are:

    "The customer must issue written exercise instructions via e-mail to the ibclearing@interactivebrokers.com prior to 4:30 p.m. U.S. Eastern Standard Time to exercise an option for that day. The IB system is designed to automatically exercise any long call or put option at expiration that is in-the-money by 3/4 of a point or more. Prior to issuing written exercise instructions, the customer must have sufficient equity in his account to meet the initial margin requirement for the purchase or sale of the underlying stock or IB will attempt to automatically close out the resultant stock position. IB does not issue intra-day margin calls to customers. The IB system is designed to automatically liquidate a margined securities position if the customer does not have enough equity in combined IB securities accounts that exceed IB's minimum maintenance margin requirement. "

  9. dlcmh


    Thanks def & dlincke.

    I suppose then, that I would not be able to make the exercise of my long put CONDITIONAL upon the assignment of the short put? The reason I ask this is because most options text say that the maximum gain of a bull put spread is realised when both options expire worthless.

    On expiration, sometimes your short put is exercised, and sometimes it isn't, you would only know it, say, Friday after-hours or Saturday morning? So how & when would you guys decide to exercise the long put? Would the best strategy be to ALWAYS close out the position by 4.30 pm Friday, assuming a profitable position and around 75 cents ITM (or even only SLIGHTLY OTM)?

    Thanks a million.
  10. def


    you can not have a conditional exercise. On expiration you shouldn't base the decison to exercise on the other leg of the option. If it is in the money - exercise it. If not, let it lapse. A broker will not know whether a client got assigned until the OCC (options clearing house) sends the details to them after the overnight clearing runs since assignments are random.

    #10     Jun 4, 2001