shorting options question

Discussion in 'Options' started by z32000, Dec 8, 2007.

  1. z32000

    z32000

    if I were to short options (not going long) and still remain safe (i guess I need to be covered), do I need a lot of capital upfront?

    say for example, the SPX options are $3 each...


    if I wanted to short 100 of these options...

    do I need $300 plus (full price of SPX multiplied by 100)?
     
  2. It depends on your broker and the strike price of the option. Check out your broker's website.
    For IB The min is $250
    For out of the money you need less collateral because you are more safe.
    Say if you short a call 150 while the stock is at 140 you will need
    The max of (250, %10 of 140 or 25% of (140-150)) In this case it will be 1400
     
  3. lindq

    lindq


    There are two sides to this issue. The first is what your broker requires, and they will tell you.

    The second is what you should require of yourself as a cash balance to support the trade whenever you are short a put or call. Why? Because it's very easy when shorting options to get sucked into thinking you can keep shorting and collecting premium, forgetting that you are responsible in CASH for losses. And if your trades turn against you, you can very easily clean out your account balance.

    While in principle there's nothing wrong with a very conservative program of shorting and collecting premium, traders get themselves into big trouble when they get lazy and don't carefully calculate their total exposure if things go wrong.

    In 2000, for example, I'd been shorting puts for six months and collecting 10K in premium a month. Not bad, right? But I got carried away, having survived a few 5% corrections, and I was feeling invulnerable. So I let things get away from me, which is the problem with short puts. When the market started dropping rapidly, with some stocks losing 10% or more in a day, I was forced to liquidate some positions at a big loss. Fortunately I pulled the trigger quickly, because if I had not, I could have lost everything.

    So the lesson here is clear. When shorting options...when shorting anything...keep a close eye on your total risk and don't ever think you are immune to big losses.
     
  4. z32000

    z32000

    yes, that's a good point...

    so in fact you do need a lot of money if you don't want to get stuck with margin calls.... am i correct?
     
  5. rickf

    rickf

    I daresay the nature of your question suggests you are new to options. Better to ask now than get killed in the market --- or if you want further examples, try papertrading them first and see what happens.

    Shorting naked options is risky if you don't know what you're doing. Depending on your broker and/or how much is in your account you might not even have the ability (trading level) to short naked options let alone naked index options....in which case you could do a spread instead.

    Shorting 100 SPX options is, imho, crazy unless you're an institution. That said, if you're going to short the S&P may I suggest the SPY instead of the SPX -- there's far more liquidity on the SPY than SPX.

    While it's not a perfectly-equal example, here are some examples from OptionsXpress where I short VERY OTM SPX puts:

    Sell -100 SPX DEC 2007 1350 Put (.SXYXJ) $0.75 ($7,500.00)

    Cost/Proceeds ($7,500)
    Option Requirement $2,222,550
    Total Requirements $2,215,050
    Estimated Commission $150.00

    Profit & Loss Chart at Expiration
    Price Profit/Loss
    $1,290.00 ($592,500)
    $1,310.00 ($392,500)
    $1,330.00 ($192,500)
    $1,349.25 $0
    $1,350.00 $7,500
    $1,370.00 $7,500
    $1,390.00 $7,500
    $1,410.00 $7,500

    ... got $2.2M ready to cover that naked short?

    Or try it on the SPY ETF:

    Sell -100 SPY DEC 2007 135 Put (.SFBXE) $0.08 ($800.00)
    Requirements
    Cost/Proceeds ($800)
    Option Requirement $218,975
    Total Requirements $218,175
    Estimated Commission $150.00

    Profit & Loss Chart at Expiration
    Price Profit/Loss
    $120.00 ($149,200)
    $125.00 ($99,200)
    $130.00 ($49,200)
    $134.92 $0
    $135.00 $800
    $140.00 $800
    $145.00 $800
    $150.00 $800

    ...both offer a horrible r/r ratio, in my view. And you're surely NOT "safe" per se!

    Among other things you need to ask yourself a bunch of questions: what's your timeframe for your target strike price? what's your risk tolerance? what's your stop loss position? what's the likelihood of your short options expiring worthless and out of the money? Etc, etc, etc.
     
  6. Good points. I would also recommend having some type of cash reserve so you can have enough margin to roll down and possibly break even/make a profit when a huge drawdown occurs
     
  7. I don't see shorting options as being "conservative" in any situation. You might have stops in place but stops are useless in the after hour markets when the biggest moves can occur.
     
  8. z32000

    z32000

    if I sell an option (covered), can I lose more than the premium or not?
     
  9. Yes...In all cases maximum loss is over 100% of premium collected. An ATM credit spread on a volatile stock (BIDU, RIMM) just before earnings might carry a maximum loss of 100% or a tad less.
     
  10. piezoe

    piezoe

    The answer is an emphatic yes. You have been given excellent advice. Be aware that long stock plus a short call is the synthetic equivalent of an uncovered short put. So unless you are comfortable selling puts naked i would not write covered calls either. Best to stick to verticals (or spreads as they are sometimes called) if you want to sell premium safely.
     
    #10     Dec 8, 2007