A safer way to take a bearish position


Stocks as a whole tend to move higher over time, but that's obviously not always the case with individual names. And we all know that they tend to fall a lot faster than they rise, and even the great ones don't go up forever. That's why there are times where being short is a good strategy.

But shorting stock is not something to take lightly, as there is unlimited risk if shares run higher. There are plenty examples of heavily shorted stocks that jump and lead to painful short squeezes. Regardless of your "intended" loss limits, that could mean the end of your short selling if not your trading altogether.

There is a good alternative--an option, if you choose--in the form of buying puts that allow you to take advantage of dropping share prices.

It should be noted that there's nothing unethical about profiting from a stock going lower. Option prices are most affected by changes in the underlying stock price and by expected volatility. And it is no great surprise that expected volatility largely hinges on actual volatility. So when a stock price drops, puts pack a double punch, profiting both from the move in the stock price and the increase in implied (expected) volatility.

Buying puts is very easy to do. They can be purchased just like any stock or any call. The maximum loss is limited to what you pay for them, unlike short selling, and you can sell them anytime.

Some people have the misconception that because there are exercise and assignment features of options that one must wait for those to occur. On the contrary, most option traders close their positions well before expiration.

Detractors of options often say that "80 percent of options expire worthless," but that is obviously misleading because most options never make it that far anyway. Option buyers almost always sell before expiration, whether they are winning or losing.

Puts can provide a protective hedge on a long-stock position, but they can also balance a portfolio when traded independently. If most of your exposure is long, then owning some outright bearish puts can give you some balance. Again, the best opportunities in buying options are when you expect a big move and increased volatility, which usually come with steep drops in the stock price. (See our Education section)

The pros do this all the time. We recently saw interesting put purchases in Groupon and Expedia . Traders (or one trader) bought out-of-the-money short-term puts that expire at the end of this week.

Hedgers usually look much further out in time. The GRPN puts were up in value this morning but are quickly falling today. The EXPE puts have been steady losers, as the trader was clearly trying to use the shorter-term "cheaper" options to take advantage of a pullback.

There are times when you want to have short exposure to a stock or the market in general. For me personally, however, I never want the unlimited risk that can accompany short selling. So puts can be  another arrow in your quiver, a way to profit from the moves in the markets that cause most traders and investors to duck for cover.

(A version of this article appeared in optionMONSTER's Advantage Point newsletter.)

More From optionMONSTER


View Comments (0)

Recommended for You

  • Tycoon buys 30 Rolls-Royces for Macau hotel

    A Hong Kong tycoon has placed the biggest ever order for Rolls-Royce cars, agreeing to buy 30 Phantoms to chauffeur guests at a luxury resort he's building in the global gambling capital of Macau. Stephen Hung's $20 million purchase surpasses the 14 Phantoms bought by Hong Kong's Peninsula Hotel in…

    Associated Press
  • “Bad news for greedy insurance companies…"

    Quickly and easily claim ALL the money you deserve from your car accident. Click below to calculate how much more you should get!

    AdChoicesFree Crash CalculatorSponsored
  • Tycoon's arrest sends shock wave through Russia

    Tycoon's arrest sends shock wave through Russia MOSCOW (AP) — The arrest of a Russian telecoms and oil tycoon has sent shock waves through the country's business community, with some fearing a return to the dark days of a decade ago, when the Kremlin asserted its power by imprisoning the country's…

    Associated Press
  • Before You Buy Alibaba, Check Out 4 Top China Stocks

    Before You Buy Alibaba, Check Out 4 Top China Stocks While investors gear up for Alibaba Group 's (BABA) hotly anticipated initial public offering, don't forget about other Chinese stocks that are worth keeping an eye on. Today's Young Guns Screen of

    Investor's Business Daily
  • Costco Stores in Canada to Stop Taking American Express

    “The credit card relationship between American Express and Costco Wholesale Canada will not be renewed when it expires” on Dec. 31, the company said today in an e-mail to Canadian customers. The message was attributed to Lorelle Gilpin, vice president of marketing and membership for Costco…

  • "The Retiree Next Door": How successful retirees stretch their savings

    "The Retiree Next Door": How successful retirees stretch their savingsBy the time she hit her late 40s, Toni Eugenia wasn’t sure she would ever be able to retire. Eugenia, 56, a pharmacy technician who lived in Houston, was nearly $200,000 in debt and

    Yahoo Finance
  • As Fed takes baby steps, Cramer's trick for profit

    In turn, Cramer says making money in the market, involves looking at the environment through the lens of the Fed. "The trick is to remember that they speak for the common person," Cramer said. "The Fed wants the common person to make money." With that backdrop always in mind, Cramer says it becomes…

  • CNBC Anchor Calls Out Fed-Hater Bill Fleckenstein In Startling Shouting Match

    CNBC Bill Fleckenstein of Fleckenstein Capital appeared on CNBC's Futures Now program on Tuesday. Futures Now host Jackie DeAngelis came out swinging, asking Fleckenstein right at the top if he was willing to admit that he had misunderstood monetary policy. Sounding taken aback, Fleckenstein…

    Business Insider
  • Dresses . Incredibly Low Prices

    Looking for a stunning dress for cheap? You can indulge in the fashions you love without breaking the bank at Nextag!

  • Play

    Citi, Bank of America Offer Discounted Mortgages

    Citigroup and Bank of America will offer mortgages at discounted interest rates to help borrowers with low incomes or subprime credit. AnnaMaria Andriotis joins MoneyBeat. Photo: Getty.

    WSJ Live
  • Beanie Babies creator's sentence debated in court

    Beanie Babies creator's sentence debated in court CHICAGO (AP) — Federal prosecutors seeking to put the billionaire creator of Beanie Babies in prison for hiding millions in Swiss bank accounts told appellate court judges Wednesday that the toymaker's sentence of probation threatens to erode the…

    Associated Press
  • Apple to unveil new iPads, operating system on Oct. 21 : report

    The company plans to unveil the sixth generation of its iPad and the third edition of the iPad mini, as well as its operating system OS X Yosemite, which has undergone a complete visual overhaul, the Internet news website said. Trudy Muller, a spokeswoman for Apple, declined to comment. The iPad is…

  • Gilead Stock Is Falling On These Drug Setbacks

    Gilead Stock Is Falling On These Drug Setbacks Gilead Sciences (GILD) shares are backsliding Wednesday on news that the patient drop-out rate for hepatitis C drug Sovaldi is quadruple that of clinical trials. In addition, the biotech's Phase 2 study results

    Investor's Business Daily
  • Here's What Mark Cuban Wishes He Knew About Money In His 20s

    Cuban is the owner of the Dallas Mavericks basketball team. Billionaire investor and entrepreneur Mark Cuban is generous with his advice. When we asked him what he wishes he'd known about money in his 20s, he said:

    Business Insider
  • Play

    What the Fed Meeting Means for Bonds

    Janet Yellen & Co. are expected to hint at their timetable for raising interest rates. Here's how investors should prepare ahead of the meeting.

    WSJ Live
  • Piel Leather Carry-All Vertical Shoe Bag - Black

    Off 36.43% Shop for Shoe Bags from Hayneedle.com! More about the leather used in this itemAll Piel Leather goods are crafted.. was $147.00 now $93.45

  • Margaritaville casino owners seek bankruptcy

    The owner of Biloxi's Margaritaville casino has filed for Chapter 11 bankruptcy protection Tuesday, only hours before a hearing where the landlord aimed to seize the property. The filing by MVB Holding LLC in U.S. Don Dornan, a lawyer for landlord Clay Point LLC, said the company had planned to ask…

    Associated Press
  • Embraer to sell 50 E-175 jets to Republic in $2.1 billion deal

    Brazil's Embraer SA, the world's third largest commercial planemaker, said on Wednesday it booked a firm order from U.S. The deal, which will be included in Embraer's order book for the third quarter, is valued at $2.1 billion, the planemaker said in a securities filing. The planes will be operated…

  • SHOE COMPANY: Our CEO Just Disappeared And Most Of The Money Is Gone

    "and like that: he's gone." This is an actual headline from a company press release: "CEO and COO disappeared, most of the company's cash missing." (Via FastFT) In a statement, German-based shoe company Ultrasonic said its CFO,  Chi Kwong Clifford Chan, has been unable to reach the company's CEO,…

    Business Insider
  • Billionaire Investor Says Chinese People Work Harder And Western Companies Could Face Deep Trouble After Alibaba IPO

    Michael Moritz, the chairman of VC firm Sequoia Capital, is a huge fan of Chinese internet companies and reiterated his enthusiasm for the Chinese market in an interview with The Wall Street Journal Wednesday. The billionaire investor described the Alibaba IPO as a “major landmark event” that is as…

    Business Insider
  • Don't buy Alibaba stock: 'Dean of Valuation'

    Investors should steer clear of Alibaba , valuation expert Aswath Damodaran said Wednesday. On CNBC's " Fast Money ," Damodaran, a professor of finance at New York University's Stern School of Business, noted that he was looking at Alibaba stock from the perspective of a long-term investor, not a…

  • Top Analyst Upgrades and Downgrades: AEP, BHP, GE, Incyte, 3M, Tyco, Under Armour and More

    Top Analyst Upgrades and Downgrades: AEP, BHP, GE, Incyte, 3M, Tyco, Under Armour and More Stocks were firm on Wednesday morning ahead of the FOMC meeting outcome. Tuesday’s rally may have sparked higher interest again, and investors are looking for bargains

    24/7 Wall St.
  • 5 Incredible Ways To Save On Flights

    Booking a flight doesn't have to hurt your pocket book. Learn these 5 tips for getting the most bang for your buck. See now!

  • 6 Things Debt Collectors Wish You Knew

    The work debt collectors do is not popular, and has become increasingly derided by those who don’t like what we do or simply don’t know the facts about debt collection. Too often, debt collection is painted with a broad brush to create a portrait that isn’t accurate, and doesn’t properly educate…