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Strategies & Market Trends : MDA - Market Direction Analysis
SPY 671.910.0%4:00 PM EST
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To: Casaubon who wrote (9191)3/26/1999 1:00:00 AM
From: Teresa Lo   of 99985
 
In fact the "infinte risk" in writing naked puts is less than owning stock.

For example if you buy 100 shares at $100 each and sell a single call with a strike price of $105 for $2.00 each for total proceeds of $200 and the stock goes to zero (in the worst case scenario), the calls you sell are worthless and your stock is worthless, and you lose $10,000 less the $200 premium you collected for the calls for a total loss of $9,800 plus 4 commissions.

If the same stock, trading at $100 and you sell a naked put with a strike price of $95.00, you collect the premium for $200 in total. If the stock goes to zero and and the put holder exercises the puts, you will have to pay $9,500 to pay for the stock less the $200 collected for the premium. So in fact you lose only $9,300 plus only 2 commissions.

Brokerage firms simply require that you put in $9,300 to cover the worst case scenario. Any other excuse is a lie. The "infinite" risk is when brokerage firms let big players write naked puts in 1987 without asking for full margin to prepare for the worst case scenario and when the Crash happened, they could not collect the money required to honor the put exercises. Charles Schwab almost went under that way in 1987.
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