How to Use the Cash-Secured Put to Buy Stock at a Lower Price
Please note: Commission, dividends, margins, taxes and other transaction charges have not been included in the following examples. However, these costs can have a significant effect on expected returns and should be considered. Because of the importance of tax considerations to all options transactions, the investor considering options should consult with his/her tax advisor as to how taxes affect the outcome of contemplated options transactions.
After thorough research an investor decides he'd like to invest in ZYX stock. It's currently priced at around $48 per share, but he feels it would be a good buy at around $45 (or lower) and that the stock could reach that level within the next two months. The investor can always place a limit order with his broker to buy ZYX shares at $45, but he decides to write a ZYX put in order to acquire the same shares if he's assigned. In the marketplace there are two 2-month ZYX puts available that might suit his purpose: an out-of-the-money ZYX 45 put trading for a quoted price of $1.50, and an in-the-money ZYX 50 put trading for $4.00. Selling either of these puts would result in a purchase of ZYX stock below the current market price of $48 per share if assignment is made, but at different net prices. The investor should sell one put contract for every 100 shares of stock he's willing to purchase.
Remember, by selling the put with a $45 strike the investor takes on the obligation to buy 100 ZYX at $45 per share should he be assigned at any time before the option contract expires, and at a net purchase price of the $45 strike less the put premium received. By selling the $50 put the investor would be obligated, if assigned, to buy 100 ZYX shares at a net price of the $50 strike less the put premium. In either case, the obligation is there to buy stock at these prices no matter how low ZYX might decline in price by expiration.
With ZYX stock currently trading for $48 per share, consider the consequences of the investor's choice between placing a limit order to buy 100 ZYX shares outright at $45 per share with selling one of two put contracts:
- Out-of-the-money ZYX 45 put at $1.50
- In-the-money ZYX 50 put at $4.00