From Theory to Practice

A Better Short

| Feb 4, 2016
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    From Theory to Practice

    A Better Short

    Feb 4, 2016

    If we want to play the downside in the market, should we just short the outright underlying instrument? No, that is usually one of the least efficient ways to establish a short position.

    Instead, we could look to utilize a married/covered put strategy, where we short stock and sell an OTM put. While this strategy limits our upside (as we can only participate in the price drop from the current price to the short put strike), we realize an increased probability of success. This is because we still make money if the stock doesn't move by collecting the premium from selling that put. Furthermore, this is a much better use of our capital than a straight short position.

    Or, we could consider selling an OTM call or call spread. Again, our upside is limited, but we make money if the stock falls or remains constant. If the stock rises, we can lose an unlimited amount with a naked call or a limited amount with a call spread.

    Lastly, when generating core short deltas for our portfolio, we could consider using futures over the underlying instruments themselves. Futures offer us leverage and flexibility, as an ES future only requires approximately 5% of the notional value in buying power reduction to hold the contract. Thus, if you want to control $100,000 of an S&P 500 investment, you could use the underlying instrument and possibly fork over the entire $100,000, or you could put up approximately $5,000 with a future, and you would have $95,000 in cash to diversify into uncorrelated products, reduce cost basis, etc.

    This video and its content are provided solely by tastylive, Inc. (“tastylive”) and are for informational and educational purposes only. tastylive was previously known as tastytrade, Inc. (“tastytrade”). This video and its content were created prior to the legal name change of tastylive. As a result, this video may reference tastytrade, its prior legal name.

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