Put Writing ETF Strategy: Just in the Nick of Time - NOT

An interesting ad popped up on my screen today for a Put writing strategy. Let's investigate.

Put writing strategies (selling PUT options) are a bet that the market or individual stocks will not will not decline sharply or if they do, the stocks will recover.

When you buy a Put you have an option to sell at a specified price. When you sell a Put you have an obligation to buy at a specified price.

Imagine a strategy that sold Put options on Worldcom, Global Crossing, or JDSU in the 2000 tech bubble. How about Citigroup, home builders, or any of the reinsurers in 2008.

In an uptrending market, put writing strategies will generally win. In a strong, sustained downtrend, these strategies will get totally wiped out.

It's interesting to note that Wisdom Tree recently launched its ETF right on the verge of a potential, and major, stock market decline.​

The Wisdom Tree ad appeared on my blog. If this post costs me ad revenue, so be it.

I always wonder about such obviously bad timing. Is Wisdom Tree betting against its own strategy? The same question applies to the short volatility ETFs that recently went to zero.

Magic Income

Mike "Mish" Shedlock

Comments (8)
No. 1-8
Wagner-
Wagner-

Correction "When you sell a Put you have an obligation to sell at a specified price."

Should read as:

"When you sell a Put you have obligation to buy underlying security at specified, higher than market price, if option expired in the money."

In other words, if Put expires in the money, then option seller has to buy stock at price that is higher than market price and option writer will end up with underlying stock position in account that has higher cost basis.

Though, overall selling Put options is less bullish and also less risky than buying underlying asset directly. So I would say that selling Put is better idea than to hold underlying asset directly if you anticipate possibility of sharp market fall. Of course, as long as you are not selling Put options on margin and keep cash as collateral in brokerage account to avoid margin call where broker foce sells your new stock position because you did not have enough cash as collateral.

Only naked Call option writers are exposed to unlimited risk if markets go up quickly.

Mike Mish Shedlock
Mike Mish Shedlock

Editor

yes that should have said buy

Mike Mish Shedlock
Mike Mish Shedlock

Editor

but selling puts with leverage also has risk of total wipeout

Wagner-
Wagner-

Agree, about leverage. But to trade Puts on leverage one needs margin account. And any strategy that requires margin account is subject to total wipe out (bearish short selling, bearish call selling, bullish put selling, bullsih stock buying on margin).

But, as a thought experiment, if one had 100 AMZN shares in account that are today worth 157,200USD, one could sell them and immediately sell 100 Puts and keep proceeds from stock sale transacion as full collateral for Put options.

If AMZN stock price remains the same or go up then he keeps Put premium. Which is win.

If stock price drops to 1,572 minus received Put premium, then option writer still did not lose anything. Which is ok.

If AMZN goes bankrupt, then sellin Put was better strategy than holding AMZN stock directly, because Put seller at least can keep premium compared to someone who was holding stock directly and gets nothing. This is the worst case scenario.

Wagner-
Wagner-

@Mish Getting back to RPUT ETFs ... the - https://www.wisdomtree.com/etfs/alternative/rput - states that their strategy is to sell "cash secured puts" and not "naked puts". So, unless the devil is in the details that I missed somehow, I would be inclined to think that their RPUT ETF is not leveraged like XIV or SVXY were. Hence RPUT ETF most likely is not subject to liquidation event (total wipe out) when underlying Russell 2000 makes big moves downwards.

In short - perhaps RPUT ETF actually will perform better in declining market than Russell 2000 would? And is still capable to make decent money in flat or growing markets...