Bear Put Diagonal Spread
The Bear Put Diagonal Spread is a low risk options trading strategy that can be used when your analysis indicates that the price of a stock, ETF, index, or commodity futures contract has strong probability of going steadily lower over the next several months.
This option strategy is a debit spread which is a combination of a Bull Call Spread and a Call Calendar Spread. This trade can be done in two ways depending on how aggressive you want to be. This is a good trade to do with LEAPS in combination with short-term options.
In the conservative strategy, buy an ITM (higher strike price) Put with 60 days or greater to expiration, and sell an OTM (lower strike price) Put with at least 30 days until expiration and at most 30 days less until expiration than the purchased Put.
In the aggressive strategy buy an ATM (higher strike price) Put with 60 days or greater to expiration, and sell an OTM (lower strike price) Put with at least 30 days until expiration and at most 30 days less until expiration than the purchased Put.
Entry Rules
You have bearish expectations for the underlying asset, but you do not expect the asset price to fall too quickly. Pay no more than $4 for a $5 spread, and $8 for a $10 spread, including commissions. The Implied Volatility of the sold Put should be at least 10% greater than the IV of the purchased Put.
Exit Rule Insights
- Cut your losses short. Sell the position anytime the price of the spread falls to 60% of your purchase price.
- Hold position until expiration week of the sold option. If the asset price is less than the strike price of the sold Put option, you have two choices:
- Exercise your purchased Put option to cover your sold option being put to you if you are assigned, and take your profit; or
- Close your position for a profit; or
- Roll forward to the next month - buy back the Put option you sold and sell the next month’s Put option at the same or lower strike price depending on the Put option prices and your outlook for the underlying asset.
If the asset price is greater than the strike price of the sold Put option, it will expire worthless. Sell the next month’s OTM (lower strike price) put option on the Monday following expiration.
If the option you purchased is entering its final month before expiration, close the position, or keep the Put or convert to a Bear Put Spread depending on your outlook for the stock.
Profit & Loss Calculations for Put Diagonal Spread
Maximum Risk – Limited to the net debit paid for the spread
Maximum Profit – Limited to difference in strike prices – net debit paid
Breakeven – Higher Put strike price + net debit paid
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