yeah but that's like hedging for fat-tails as advocated by Nassim Taleb. Yes when a crash does happen, you get rewarded like being in heaven but for ALL the time when it doesn't, you just keep incurring losses after losses after losses after losses after losses...which after a while feels like being in hell. So between one extreme of incurring huge losses to protect against crashes that happen once in a blue moon and another extreme of having zero protection against any crashes that come along, you take a happy medium where you get some protection against catastrophic crashes but you don't take on huge losses for doing so either: Verticals. I find that's the best. Verticals WILL cut into profits but when catastrophic crashes happen, you are protected. Had this guy in the article traded verticals instead of naked, he wouldn't have lost everything and taken on additional debt of $500K+ which in today's dollars is over $1 million!!
Imagine if SPX REALLY went to zero on that day. I think half of the country would've gone bankrupt and owing money to the few that bought put and they would own half of the country!! The drop on that day was just 22% and the price of the put already increased $11495 assuming the original price was 305 so a drop of 100% would've entailed an increase of $52250 assuming vega and IV (which could increase infinitely in theory) remain unchanged and the guy would've incurred a loss of over $5 million+!! And that is assuming that he only shorted ONE contract. Imagine if he had shorted more... And that is just ONE person now imagine the entire industry... If there were buyers, there must've been sellers and I dunno how many of them hedge...
1) Your req is $468, not $500. 2) You're making $768 but risking $11K. 3) Terminally, at 335 your busto in your vertical. 4) Terminally, at 335 you earn $128 on the short 278 put. The haircut it to protect you from yourself--but then you've found verts and ironically will risk it all on an arbitrary stop (340).
Oh I have a correction to make: The guy did NOT just sell ONE contract. He actually shorted 72 contracts at two different brokers. Way too overleveraged also. Guess he didn't do scenario analysis either.
Absolutely I concur, its very important to do that.. when I first started trading options I did not know that and I nearly got scalped.. but I wasn't that leveraged so I managed the position then learned about verticals..
The profit would have been less if you decided to sell 3 or 4 vertices. Always better to sell naked for this reason.