Trading Options: Benefit from a Fall in Share Price

Submitted by Stock Market News on 1 June, 2011 - 14:20

How you can benefit from a falling share price.

Traditionally, traders make money from a rise in share price. Then when a bearish market comes around they stay out until the market recovers so they can buy back in. Trading options, on the other hand, lets you profit even when share prices fall. This can be done by buying put options. Its basically the opposite of buying call options. The more the share price falls, the higher in value the put options become. If the share market decides to take a different route and the share price increases, the put will lose its value, but the most you can lose is your premium.

Leverage

Similar to buying call options, investing on a put option also gives you leverage, provided that the share price falls. The percentage of your return are higher than the change in share value. If the share prices moves in your favour leverage will increase your profitability. A put option also costs at a fraction of the underlying share.

Limited Risk

One of the biggest advantage of put option is that you can short sell at unlimited risk. No matter how high the share price increases the most you can lose is the premium that you paid.

Similar to buying call options, the main risk is if the price action does not move according to your expectations. If the share price rises instead or remains steady your put option will have less value. More importantly if the share price is above the exercise price, your option will expire worthless. A fall in volatility also hurts your investment. If you buy a put and the volatility crashes then you stand to lose money. Time also work against you. So before you buy a put option be sure that your confident enough that the share price will fall.