A bear put spread is an investment strategy that is often employed in times when the market is described as being in a bear phase – when the value of investments are falling and the majority of investors are selling. There is a speculative component to bear put spreading and an investor will usually take this route when they are quite certain that a value of an investment is likely to decrease in the near future. A close study of market trends and fluctuations will pinpoint when a downturn is in evidence: this is the time when the bear put spread is often used.
– Specifics of a bear put spread:
A purchase of a put option on a particular stock is facilitated – strictly speaking, a put option, or ‘put’, is a form of financial contract between two market players; it involves a writer (seller) and buyer of the said option. The buyer of the option secures a ‘short position’ as part of the put option agreement – this gives the buyer the right to sell the option to the seller within a specified time frame for a ‘strike price’ – classed by a specific value; this transaction is binding regardless of the market value of a particular stock. At the same time as the purchase of a put option, the same investor will sell a put option on the same stock, with the expiry date being identical; this time however, the strike price will be set lower. This same type of balanced transaction can also occur with a bull market and is referred to as a bull put spread.
– When is the best time for bear put spreads?:
There is a certain timing that is required for an investor to capitalize on a bear put spread. Many financial market experts advise that the bear put spread should be used when the market is in a moderately bearish phase. If used when the market is in a pronounced bear period, a bear put spread can prove more complex and risky to manage. When used with fiscal precision, the bear put spread can be a smart investment with a good return as it offers the investor a doubly hedged investment – however, the whole arrangement’s success will be determined largely on the continued decreasing value of the investment with the bear put spread. As a final reminder – the optimum time for this type of investment is when the market is continuing in a downwards trend for a certain time frame.
– Sources cited:
The Options Industry Council
The Options Guide
Wikipedia (Put Option)
Wikipedia (Short – Finance)