Put Ratio Backspread

Posted in Finance, Accounting and Economics Terms, Total Reads: 352
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Definition: Put Ratio Backspread

It is an option trading strategy where one takes both short put and long put and the profit/loss of his/her position is determined by the ratio of those puts. As the option investor determines the puts ratio and he/she derives profit from the volatility of underlying asset it, the name is given as Put ratio Backspread.


The option is designed such that it has a potential to make unlimited profit with limited loss or limited profit with unlimited loss depending upon the preference of the investor. Typical ratios are (long put : Short put) 3:2, 2:1, 3:1

 

Source: onlinetradingconcepts


For example: Take a stock which is treading at $29.50. It has following one month puts:


1. Exercise price= $30

Option price= $1.16


2. Exercise price= $29

Option price= 62 cents


Now an investor who is bearish on the stock would set a 2:1 put ratio stock spread:


Considering each option contract has 100 shares,

Long on two $29 put contract= ($.62*2*100) = ($124)

Short on one $30 put contract= $1.16*100= $116

Net cost= $8


On expiry:

Case 1:

Stock price=27

Gain(in $)= (29-27)*200-(30-27)*1000-8 =92


Case 2:

Stock Price=31

No one will get exercised

Loss(in $)=8

 

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