Bear Spread, A Popular and Succesful Option Strategy

Like the Bull Spread, an option strategy, Bear Spread can be created with either calls or puts.

The bear spread with calls involve the purchase of one call (higher strike) and the sale of a call with a strike price lower than the long call. This is done as a credit spread. The maximum profit is the amount of the credit. The spread becomes profitable if the underlying security, which was sold, closes below the strike price . Both options have the same expiration date.

Maximum profit = net amount of the credit received

Maximum risk = difference between the two strike prices - net credit received + commissions

Following is an illustration of the put bear spread option strategy created by buying a put with a higher strike price and selling a put with a lower strike price.

With XYZ trading at $33 you could create a put bear spread by selling 1 XYZ JUN 30 PUT for $1 and buying 1 XYZ JUN 35 PUT for $3, giving you a net-debit of $2.

Maximum profit in the put bear spread can be earned when the underlying stock trades below the lower strike price, $30 in this example. Conversely, the spread's maximum loss is reached when the stock trades above the higher strike price, in this case $35. Again, the maximum loss with a put bear spread is the cost of the spread itself, while the maximum profit is the difference between the strike prices less the cost of the spread.

Bear Spread Facts

* There must be an equal number of options on either side of the spread and all the options must have the same expiration date

* A higher strike price is purchased and a lower strike price is sold.

* Bear spreads may require higher commissions since they involve buying or selling multiple positions.

* Finally, you make money if the underlying stock goes down and lose money if the underlying security rises in price.