Barron’s And Naked Puts

This week’s Striking Price column profiled a do-it-yourselfer who very successfully maintains an account with 10-12 positions of naked puts. Based on what I read it seems like most positions are about 20 lots in size. The way the numbers work out the margin requirements are about $125,000 and the premiums taken in work out to an annual return in the mid 20%’s on the minimum maintenance requirement for the positions.

The article devoted a little space to the what can go wrong part of this strategy but I would have like to have seen a little more. I don’t doubt the success of the investor profiled but the way the article was written it made it seem like he was taking a tremendous amount of risk by way of being over leveraged.

The minimum requirement for a naked put is usually about 20% of the cost to buy the stock. So if I read the article correctly it seems the investor in question is controlling $500,000 worth of stock with $100,000. The downside of this is a drop in the market. If the market goes down by 3% a $500,000 account would go down in value by $15,000. That same $15,000 hit to a leveraged $100,000 portfolio is obviously a 15% hit. This only comes into play, however, if you buy back the puts or get assigned.

Bottom line is be careful with the leverage.

3 Comments

  1. Good point, Roger! I would also add that selling naked puts in the current market is extremely risky. Not mentioning that the major indices are at resistance levels (bigger possibility to move down) and the volatility is very low at the moment (I put a QQQQ volatility graph in my blog to illustrate it), which also adds possiblity that the options will get more expensive even if the market doesn’t move.

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  2. I think the bottom line is “don’t sell naked puts.”

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