Dave-On face of it, I can say that two things are being violated here :
1- You are receiving only 2 3/4$ premium on puts which are being sold rest is the intrinsic value, if the stock is trading at 130 today.Whereas you are paying a huge amount of premium on long puts you are purchasing 8 3/4$, there is no intrinsic value of this put, this at the money. Now my experience tells me that one should never sell a put which moves tick to tick, your 150 will move tick to tick if stock down, but will retain a lot of premium even if stock moves higher, if it trades at 150, like at the money put of 130, until expiry this premium will still be btw 5-8$ depending on residual time and volatility. Your time premium on 130 will vanish faster as stocks move higher, until expiry your margin requirements would change and you will receive calls to furnish those requirements.
2- Suppose stocks drop to 100 say tomorrow, so lets look at your trade ; 150 short will be worth (51$) you recd 22 3/4
130 long will be worth 31$ you paid (8 3/4)
Your trade loss 20$ you recd 14
Net loss 6$
The problem is that deep in the money puts lose all their time
premiums, so although you recd only 2$, you will lose nearly all of 8 3/4$ as your long puts come deep in money, on the other hand if stock move higher your intrinsic premiums will disappear and time premium will stay, if stock moves upto 150 tomorrow, lets see what happens:
150 short will be worth (8 3/4$) you recd 22 3/4$
130 long will be worth 3 3/4$ you paid ( 8 3/4$)
Your trade loss ( 5 3/4$) you recd 14 $
Net gain 8 1/4 $
I think to make 8 1/4 $ risking 6 $ is not a kind of return, I would recommend. If the stock moves up you will do great but market makers tend to protect themselves from worst scenerios and any trader should look at it the same way, but I will really like to see some more innovations on this thread. Please correct my assumptions if I am wrong, I am also a learner like you, love to learn. |
