Then the Cash Secured Put is the options strategy that you want to master.
When used correctly, not only can it give you a consistent income, but it can also help you reduce your overall risk.
However, if used incorrectly, then it can easily wipe out your account.
So when using the Cash Secured Put, you need to know exactly what to do, and what NOT to do.
And in this ultimate guide, I’ll share with you everything you need to know about this high probability and highly profitable options strategy so you can consistently make money in the markets.
What Is The Cash Secured Put & How Does It Work?
Let’s first understand the difference between a buyer and a seller of a Put option.
The buyer of the Put option has the right to exercise the option to sell 100 shares of the underlying stock per contract at the option’s strike price.
On the other hand, the seller of the Put option has the obligation to buy 100 shares of the underlying stock per contract at the option’s strike price if the option gets exercised.
So for the Cash Secured Put strategy, we are the seller of the Put option.
The strategy is to sell a Put option on a stock you wish to own 100 shares of, and receive a premium while waiting to get your Put option exercised.
For example, let’s say there’s a stock that you wish to own and it is currently trading at $50.
But you think that $50 is a little bit too pricey.
And you want to only buy 100 shares of it at $45.
In this case, you can sell a Cash Secured Put with a strike price of 45.
And for selling that Cash Secured Put, you receive a premium of $1.00.
That means that if the stock goes below $45 at any time before the expiration date, the buyer of the Put option has the right to exercise it and sell you 100 shares of the stock at $45.
And you have the obligation to buy those 100 shares at $45.
That means you need to have a capital of $4,500 set aside to buy the 100 shares.
But if the stock never goes below $45 and the Put option expires worthless, then you won’t be assigned those 100 shares.
On top of all that, you still get to keep the $1.00 in premium for selling the Put option, which is a $100 per option contract!
This is also why the Cash Secured Put is considered an income-generating strategy!
If your Cash Secured Put keeps expiring Out-of-The-Money (OTM), then you will keep collecting the premiums over and over again!
Cash Secured Puts Versus Naked Puts
Now, there’s a difference between a Cash Secured Put and a Naked Put.
A Cash Secured Put means you have the funds to fulfill the obligation of buying 100 shares of the underlying stock if you get assigned.
On the other hand, a Naked Put is where you do NOT have the funds to buy the 100 shares if you’re assigned.
This is where many people get into trouble selling Put options.
That’s because they only want to get the premium without having any intention to buy 100 shares of the underlying stock.
While the Naked Put can be a viable strategy if used correctly, do understand that it can be very risky without the proper risk management.
Here’s an example.
Let’s say you wish to sell a Put option on Starbucks (Ticker: SBUX) at the strike price of 70.
That means if you’re assigned, you would need $7,000 to be able to buy 100 shares.
But that does not mean you’d need the full $7,000 to be able to sell the Put option.
In fact, if you’re on a margin account, all you’d need is to put up $776.65 as margin to be able to place this trade.
And by putting up this margin, you’re able to receive $145 in premium.
That’s an 18.67% return on your margin!
So many new option traders see how lucrative this can be and they start maxing out the number of contracts they can sell based on their account size.
For example, if they have an account size of $5,000, they would sell 6 Put options and receive a total premium of $879.
But if the stock starts going down, then their account would be easily wiped out.
That’s why it’s important to have the necessary funds to buy 100 shares of the underlying stock if you get assigned.
While you may not make as much as selling 6 Put options, you will at least not lose money!
As long as the stock is a fundamentally strong company, it has a higher probability of going up in the long term than it going down.
What Happens To The Cash Secured Put At Expiration?
Let’s use SBUX as an example.
In the chart above, SBUX is currently trading at $77.92.
And let’s say we want to only buy 100 shares of SBUX at $70.
So we sell a Cash Secured Put at the strike price of 70 and receive a premium of $1.45.
Now, three scenarios can happen.
Scenario 1: SBUX is above $70 at expiration
If SBUX is above $70 at expiration, our Cash Secured Put expires worthless.
And we still get to keep the premium of $1.45, which is $145 per option contract.
At this point, we can sell another Cash Secured Put.
If we had instead placed a Buy Limit Order of 100 shares at $70, we also wouldn’t be filled on the 100 shares.
But we also wouldn’t get any premium.
By selling the Cash Secured Put, we were able to get $145 in premium.
But placing a traditional Buy Limit Order would get us nothing.
Scenario 2: SBUX is below $70 at expiration
If SBUX is below $70 at expiration, our Cash Secured Put is now In-The-Money (ITM) and would now be exercised.
That means we would be assigned 100 shares at $70.
At the same time, we still get to keep the $1.45 in premium.
That means, our effective cost price of the 100 shares is now:
$70 – $1.45 = $68.55
If we had instead placed a Buy Limit Order, our cost price for the shares would be higher at $70.
But by selling the Cash Secured Put, we were able to get a “discount” on the 100 shares.
That is why the Cash Secured Put is a better way to buy stocks than the traditional way of placing a Buy Limit Order.
Pros & Cons of the Cash Secured Put
Let’s start with the Pros.
- You get “paid” while waiting to buy the stock at your desired price. If you had just placed a Buy Limit Order, you wouldn’t get paid at all.
- You’re able to reduce the effective price of the stock as you collect premiums. For example, if you managed to sell several Cash Secured Puts before you got assigned and collected a total of $4 in premium, then your effective price of the stock would be $4 lesser than just placing a Buy Limit Order to buy the stock.
- You can also keep rolling the Cash Secured Put out to the next expiration date and to a lower strike price as well. This will allow you to get a better price on the 100 shares if assigned.
As for the Cons, I can only think of one:
- There are times when the stock might briefly go below your Cash Secured Put’s strike price and then start going up from there. In this case, because your Cash Secured Put isn’t at expiration, you won’t be assigned those 100 shares. So all you would receive is the premium. But if you had placed a Buy Limit Order instead, you would be Long 100 shares and now be in profit as the stock rallies.
5 Steps to Selling Cash Secured Puts For Income
So here are 5 steps that you can follow to start selling Cash Secured Puts to generate a consistent income.
Step 1: Only sell Cash Secured Puts on stocks you want to own.
The objective of the Cash Secured Put is to own 100 shares of the underlying stock.
That is why it’s important to only use this strategy on stocks you want to own instead of on stocks that give high premiums.
There are many people who are lured by the high premiums of meme stocks like Gamestop.
While you can get high premiums on such a stock, the problem is that the company is not profitable.
That means that there’s a higher probability that the stock will go down than up in the long term.
So while you can get lots of premium for selling a Cash Secured Put on Gamestop, if you get assigned, the stock may not necessarily go back up to where you purchased the 100 shares.
And chances are that the premium you receive will not be able to cover the losses on the stock, and you end up with an overall losing position.
It’s much better to sell a Cash Secured Put on fundamentally good stocks with lower premiums because as long as the stock goes up in the long run, you will be profitable, period.
Step 2: Sell only when the market is on a wave down.
The market moves in a wave pattern.
When the stock goes up, it’s called a wave up.
When the stock goes down, it’s called a wave down.
And during a wave down, that’s when volatility increases.
This is especially so in a bear market.
And when volatility increases, the premium you receive will increase as well.
Basically, the higher the volatility, the juicier the premiums.
Hence we only want to sell Cash Secured Puts when the market is on a wave down.
Step 3: Sell at a strike price that you’re comfortable owning 100 shares.
Now, while you may have selected a fundamentally good stock to sell the Cash Secured Put on, it’s also important to choose the right strike price.
That’s because if you are assigned and the stock subsequently continues to go down, then you may have to wait a long time before the stock comes back up to where you bought it at.
So when selecting a strike price, you want to choose the price that you’re comfortable owning 100 shares at.
This would also preferably be below a support level.
This way if you get assigned, the stock has a good chance of bouncing back up.
Step 4: Choose the options that have a Days-To-Expiration (DTE) of 45 and below.
By selecting the Put option with a DTE of 45 or lesser, we would be utilizing theta decay to its fullest potential.
That’s because an option’s Extrinsic Value starts decaying very quickly once it goes below the DTE 45 mark.
And as an option premium seller, we want the option to decay as quickly as possible to realize the full profits of the option.
Step 5: Sell only when you get a decent premium.
Since our goal is to get Long 100 shares of the underlying stock, we want to get as much premium as we can before we are assigned.
As a general rule of thumb, you want to only sell a Cash Secured Put when the premium gives you an annualized return of at least 20 percent or more.
So let’s say you are looking to sell the 70 strike price Put option with DTE 45, and you currently can sell it for $1.50.
The way you would calculate the annualized return is like this:
[($1.50 / 70) / 45] x 365 days = 0.1738 = 17.38%
So in this case, you might not want to sell this Cash Secured Put just yet because the premium is not high enough.
You can either wait till the price drops a little further before selling the Cash Secured Put.
Or, you can sell a higher strike price that is closer to the current stock price.
This could give a premium that hits the criteria of at least 20 percent in annualized return.
So there you go!
In conclusion, the Cash Secured Put is a fantastic options strategy to help you buy your favorite stock.
Not only will you be able to get an “income” while waiting to buy the stock, but once you get assigned, you would be able to have a lower effective cost on the stock too!
This is definitely a much superior strategy to get Long stock than the traditional Buy Limit Order.
Are you excited to start selling your first Cash Secured Put?
I hope you will be after reading this post!
Leave a Reply