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Trading the Short Put Ladder

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Short Put Ladder is exactly opposite of Short Call Ladder. In the Short Put Ladder Put options are traded instead of the Call options.

Note: This is the last series on the Ladder trades. A lot of traders whom I have talked to trade the ladder trade without knowing they are actually trading ladders. Most of them sell more and buy less options which means they are trading the Long Ladder unknowingly. Unfortunately most of them are speculating to their comfort and obviously losing money.

It always helps to know what you are trading and why? So if you are one of those who differentiate between the number of lots for buying and selling depending on your view, you are likely to do the same mistake again and again. Because every time you trade you will choose strike prices according to your convenience and not the correct strike for maximizing profits and minimizing losses.

If you differ the number of lots while selling and buying I request you to read all the four types of Ladder trades to help to understand which one to trade according to your view. Please get out as soon as your profit target or stop loss target is met. Hoping for a favorable outcome in every trade is not a good way to trade. Here are the link to the four ladder trades:

1. Long Call Ladder
2. Long Put Ladder
3. Short Call Ladder
4. Short Put Ladder – you are currently reading this.

The view: In a Short Call Ladder a trader was bullish, since they are opposite trades the view should be also opposite. In Short Put Ladder the trader is bearish. However in both the trades the trader’s view on volatility should be bullish.

So when you are bearish on a stock or index and bullish on volatility you can trade a Short Put Ladder. You have to be bullish on volatility because you are buying more options than selling. Volatility helps the buyers.

Risk: Limited
Reward: Unlimited

Construction of the Short Put Ladder Trade:

1. Sell 1 In The Money (ITM) Option
2. Buy 1 At The Money (ATM) Option
3. Buy 1 Out of The Money (OTM) Option

Have a Look at the graph:

short put ladder profit and loss graph

Note: In the above image the trader has got a credit while trading the short put ladder. This may happen rarely, but mostly you will have to pay a debit to trade this. If you get a credit this is a slightly better trade as if all the options expire worthless, you can keep the cash you got while putting this trade. But we don’t trade this to get a credit – we trade this because our view is bearish. However for bearish views there are better trades which I will discuss later. In the example below you will see that I had to pay money to trade this.

As usual let me get real prices from the trading floor.

Date: 30th of December 2014
Spot Nifty: 8248 (Will treat 8200 as ATM)
India VIX: 14.86 (Average)
All options expiring on 29-Jan-2015 (30 days from today) and rounded off.

1. Sell 1 In The Money (ITM) Option: 8300 PE available at 119.00
2. Buy 1 At The Money (ATM) Option: 8200 PE available at 85.00
3. Buy 1 Out of The Money (OTM) Option: 8100 PE available at 60.00

Assuming 100 shares (4 lots of Nifty) were traded in each option.
Lets see whether the trader received a credit or had a debit on the trade:

8300 PE Sold: 119*100 = +11900
8200 PE Buy: 85*100 = -8500
8100 PE Buy: 60*100 = -6000

11900-8500-6000 = -2600

So the trader had to pay Rs. 2600 to trade this Short Put Ladder. Note that this is not his max loss, we will soon see what the max loss is.

Lets see what happens on the expiry day if:

Nifty at 8300:

All options expire worthless. The trader loses the initial investment of Rs. 2600. Note that above 8300 the results will be same.

Loss in percentage of investment: For this trade almost Rs. 60,000 will be blocked. (For real figures please check your broker’s platform). However it should be somewhere near 60,000.

(-2600/60000) * 100 = -4.3%

Nifty at 8200:

8300 PE at 100: Was sold for 119.00. 119-100 = 19*00 = +1900 (Profit)
8200 PE expires worthless: Was bought for 85. 85*100 = -8500 (Loss)
8100 PE expires worthless: Was bought for 60. 60*100 = -6000 (Loss)

Total Loss: 1900-8500-6000 = -12,600

Loss in percentage: (-12600/60000) * 100 = -21%.

This is the max loss in this trade. Are you comfortable with this kind of max loss? At least I am not. I would have taken a stop loss long back.

Very Important Note: Therefore any trades with such a huge max loss must be managed before things go out of hand. I have told this many times and will tell again that hoping something good will happen to your trades in future is NOT the right way to trade. It has more to do with your ego or fear than the stock markets. You must take your stop loss when you are not comfortable owning a trade.

Nifty at 8100:

8300 PE at 200: Was sold for 119.00. 119-200 = -81*100 = -8100 (Loss)
8200 PE at 100: Was bought for 85. 100-85 = 15*100 = +1500 (Profit)
8100 PE expires worthless: Was bought for 60. 60*100 = -6000 (Loss)

Total Loss: -8100+1500-6000 = -12,600

Loss in percentage: (-12600/60000) * 100 = -21%.

Nifty at 8000:

8300 PE at 300: Was sold for 119.00. 119-300 = -181*100 = -18100 (Loss)
8200 PE at 200: Was bought for 85. 200-85 = 115*100 = +11500 (Profit)
8100 PE at 100: Was bought for 60. 100-60 = 40*100 = +4000 (Profit)

Total Loss: -18100+11500+4000 = -2,600

Loss in percentage: (-2600/60000) * 100 = -4.3%

Now we will see some profits.

Nifty at 7900:

8300 PE at 400: Was sold for 119.00. 119-400 = -281*100 = -28100 (Loss)
8200 PE at 300: Was bought for 85. 300-85 = 215*100 = +21500 (Profit)
8100 PE at 200: Was bought for 60. 200-60 = 140*100 = +14000 (Profit)

Total Profit: -28100+21500+14000 = 7,400

Profit in percentage: (7400/60000) * 100 = 12.33%

Nifty at 7800:

8300 PE at 500: Was sold for 119.00. 119-500 = -381*100 = -38100 (Loss)
8200 PE at 400: Was bought for 85. 400-85 = 315*100 = +31500 (Profit)
8100 PE at 300: Was bought for 60. 300-60 = 240*100 = +24000 (Profit)

Total Profit: -38100+31500+24000 = 17,400

Profit in percentage: (17400/60000) * 100 = 29%

For every 100 points drop the trader makes a profit of +10,000.

But look again the trade results – Nifty has to fall from 8248 to 7900 to make some money for the trader. This is fall of 4.2%. How can we predict such a fall? If we can, we can simply buy ATM puts and make great money. 🙂

Real trading is quite different. Look at the graph above. See that the stock has to travel from the negative zone to positive zone to make some profits. In real world your patience will run out and you will take a stop loss much earlier.

Unfortunately what happens after that is of no use to you, as you will have already taken a stop loss when the stock was in the negative region. It of course cannot fly from 8248 to 7900, to just make a profit for you. Theretofore in my view this is not a good trade and should be avoided.

If you have a strong feeling of a market fall you can always buy an ATM put and sell an OTM put (put debit spread) or sell a ATM call and buy OTM call for protection (credit spread).

Fact is most of us cannot predict market direction therefore its very important that you learn conservative trades and be happy with the small returns it provides every month.

The worst part in this trade is that you cannot manage your losses. The only way to do is to take a stop loss. Therefore these kinds of trades must be avoided.

Conclusion:

  • Short Put Ladder: Sell 1 ITM Put, Buy 1 ATM Put, Buy 1 OTM Put.
  • If stock falls significantly the trader makes money.
  • The stock travels from the negative zone to positive zone – in real world the trader loses patience and takes a stop loss – so this trade is best avoided.

    Have you ever tried the Short Put Ladder? If yes I would love to hear your experience in the comments section below.


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  • About the author: I started trading stock markets since 2007. However my first 3 years were losses. Then I dedicated almost 1 year on studying, researching, paper trading options and learned a lot in that time. Since 2011 I am trading Nifty options profitably. Call me if you need any help trading options on 9051143004.

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