SteadyOptions is an options trading forum where you can find solutions from top options traders. TRY IT FREE!

We’ve all been there… researching options strategies and unable to find the answers we’re looking for. SteadyOptions has your solution.

Options Equivalent Positions


One of the interesting features about options is that there is a relationship between calls, puts, and the underlying stock. And because of that relationship, some option positions are equivalent – that means identical profit/loss profiles – to others.

Why is that important? You will discover that some option combinations – called spreads – are easier, or less costly to trade than others. Even with today’s low commissions, why spend more than you must?
 

The basic equation that describes an underlying and its options is: Owning one call option and selling one put option (with the same strike price and expiration date) is equivalent to owning 100 shares of stock. Thus,
 

S = C – P; where S = stock; C = call; P = put


If you want a simple proof that the above equation is true, consider a position that is long one call and short one put. When expiration arrives, if the call option is in the money, you exercise the call and own 100 shares. If the put option is in the money, you are assigned an exercise notice and buy 100 shares of stock. In either case, you own stock.

NOTE: If the stock is at the money when expiration arrives, you are in a quandary. You don’t know if the put owner is going to exercise and therefore, you don’t know whether to exercise the call. If you want to maintain the long stock position, the simplest way out is to buy the put, paying $0.05, or less, and exercise the call.


 Example of options equivalent positions

 There is one equivalent position that you, the options rookie, should know because these are options spread trading strategies you are likely to adopt.

Take a look at a covered call position (long stock and short one call), or S-C.


From the equation above, S –C = -P. In other words, if you own stock and sell one call option (covered call writing) then your position is equivalent to being short one put option with the same strike and expiration. That position is naked short the put. Amazingly some brokers don’t allow all clients to sell naked puts, but they allow all to write covered calls. The world is not always efficient (you already knew that).


Thus, writing a covered call is equivalent to selling a naked put. This is not a big deal to anyone who is an experienced option trader, but to a newcomer to the world of options this can be an eye-opener.


The more you trade options, you more you will become aware of other equivalent positions. You may even decide to play with the equation yourself and discover others.

 

If you are new to the world of options, today's discussion of options equivalent positions may appear to be a bit confusing.
But if you go slowly and re-read the linked posts, you’ll understand the discussion.

 

If you’ve been trading options for awhile and never bothered to learn about equivalent positions, this post contains information that can make your trading more efficient.

Here is summary of some recent blog posts:

 

  • Some option positions are equivalent to others, and covered call writing is equivalent to writing naked puts.
  • To significantly reduce the risk of writing naked puts, turn it into a credit spread by buying a put that is further out of the money than the put sold.
  • Collars are a good, conservative strategy for any conservative investor.

Let’s take a closer look at a collar, which consists of three legs: long stock, long put, short call. ZZY is trading at $67 per share and you want to collar that stock. To do that you may decide to write one Dec 75 call and buy one Dec 60 put.

 

Separating the collar into two parts:

 

Collar: Part One

 

Part Two

  • Long 100 shares of ZZY          
  • Long 1 ZZY Dec 60 put
  • Short 1 ZZY Dec 75 call

Part one is a covered call position, and we know that a covered call is equivalent to being short the put with the same strike and expiration.

 

The collar, part one is equivalent to:  Short 1 ZZY Dec 75 put

 

The collar, part two is:  Long 1 ZZY Dec 60 put

 

This position is a put credit spread (short a put and long a put with a lower strike price).

 

So what, you ask? This is proof that the collar position is equivalent to the put credit spread – but only when the put owned is the same and the put sold has the same strike and expiration date as the covered call.

 

If the conservative approach offered by collars appeals to you, consider selling the put credit spread instead. First, there are fewer commissions to pay, and second, the put spread is easier to trade because there are only two legs in the position, instead of three.

 

NOTE to more experienced traders: The collar is also equivalent to buying the bull call spread, when the strike prices and expiration date are the same as the puts that are part of the put credit spread. In other words, buying the ZZY Dec 60/75 call spread is equivalent to selling the ZZY Dec 60/75 put spread.

What Is SteadyOptions?

Full Trading Plan

Complete Portfolio Approach

Diversified Options Strategies

Exclusive Community Forum

Steady And Consistent Gains

High Quality Education

Risk Management, Portfolio Size

Performance based on real fills

Try It Free

Non-directional Options Strategies

10-15 trade Ideas Per Month

Targets 5-7% Monthly Net Return

Visit our Education Center

Recent Articles

Articles

  • The Gut Strangle

    The graphically named “gut strangle” is a seldom-used strategy, but it might work in some circumstances. This involves trading in-the-money calls and puts. A long gut strangle is set up by buying both options; and a short gut strangle calls for selling both sides.

    By Michael C. Thomsett,

    • 18 comments
    • 376 views
  • Selling Options When Implied Volatility is High

    In the second week of October 2018, the Dow Industrial Average tumbled 1,300 points within a two-day period just ahead of earnings season. How did it happen? There were several explanations for why stock prices sold off, but the most obvious was that investor fear had changed market sentiment.

    By Nathan Wade,

    • 1 comment
    • 148 views
  • Do all stocks have the same expected returns?

    When deciding to build a diversified investment portfolio, there are many different considerations. Which asset classes do you buy? Large cap or small cap? US only, or international too? Mutual funds or ETFs? How much in bonds? Passive or active? Growth or value?

    By Jesse,

    • 0 comments
    • 198 views
  • Selling Puts: The Good, The Bad And The Ugly

    Hardly a day goes by that I don't read an article or hear some pundit extol the merits of selling puts (put-write).This article will discuss various variations of put-write strategies. What accounts for put-write strategies under-performance? How to fix put-write underperformance? Why "easy money" isn't so easy.

    By Reel Ken,

    • 0 comments
    • 376 views
  • The “OOPS signal” trade

    Have you been taken by surprise by movement of your stock? Options traders who find themselves on the wrong side of a trade have experienced this dilemma, but as often as not, it occurs as part of a move and retracement.

     

    By Michael C. Thomsett,

    • 0 comments
    • 413 views
  • 14 Tips to Better Trading from Home

    Here are 14 actionable ideas that will help you improve your trading from home. Implementing these ideas will help aspiring traders move toward the consistent profitability they seek.

    By TFCAB,

    • 0 comments
    • 7,135 views
  • Powerful Channel Signal – Combining Bollinger and T-line

    Technicians tend to focus on single indicators, such as Bollinger Bands or the t-line. These are used to attempt to perfect a timing system. Individually, each signal has merit. Combined, the reversal signal is exceptionally strong.

    By Michael C. Thomsett,

    • 0 comments
    • 6,782 views
  • Following Signs That Others Ignore (VIX Study)

    In fact, the crowd sees hardly anything out there that might end this market party.” Michael Santoli made the above statement during CNBC’s closing market wrap on January 26th, 2018. He had reason to throw caution to the wind as the S&P 500 closed the day up by more than 1%, setting another record high.

    By Michael Lebowitz,

    • 0 comments
    • 489 views
  • Revisiting Anchor Part 2

    Last month we posted some updates to the Anchor strategy that were obtained using an in-depth back testing of the strategy and variations of it using the ORATS Wheel software.  We adopted three conclusions last month:

    By cwelsh,

    • 4 comments
    • 506 views
  • Covered Calls –Does Rolling Forward Mean Higher Risk?

    Do you roll forward to avoid exercise? It seems like an obviously advantageous move. You avoid exercise and generate a net credit. What can go wrong? Actually, rolling incurs more risk, and every covered call writer needs to study the potential roll and compare the advantages of rolling versus closing and taking a loss or allowing exercise.

    By Michael C. Thomsett,

    • 0 comments
    • 652 views

  Report Article

We want to hear from you!


There are no comments to display.



Your content will need to be approved by a moderator

Guest
You are commenting as a guest. If you have an account, please sign in.
Add a comment...

×   Pasted as rich text.   Paste as plain text instead

  Only 75 emoticons maximum are allowed.

×   Your link has been automatically embedded.   Display as a link instead

×   Your previous content has been restored.   Clear editor

×   You cannot paste images directly. Upload or insert images from URL.

Loading...

Options Trading Blogs