I have been selling naked puts for about 2 and a half months at this point, and for the first time I saw a little notification that one of my trades was “in the money.” A little background is probably appropriate.
Selling Naked Puts
A naked put is an options contract wherein for a premium that I collect today, I give someone else the right to “put to me” 100 shares of a particular stock. While it may be considered a risky type trade, I think my methodology significantly reduces the risk selling naked puts. Without repeating the process again, my method is basically using relatively stable stocks, with a great cushion and companies I wouldn’t mind owning. Do they meet the strict metrics of my undervalued dividend growth stocks? No, but they are usually great dividend paying companies.
My Viacom Trade
On 9/7/2016 I sold a put with a strike price of $36 and expiration date of Sept. 30 for a premium of .25 ($25 credited to my account). At the time VIAB was trading around $40 a share so I had a 10% cushion. Well, the chart doesn’t look great from that date till today:
You may have to zoom in to see, but the stock dropped approximately 7% – 10% in the few weeks since I sold the option contract.
…and today it actually touched “in the money” dipping below $36.00/share. In the money refers to the contract actually being exercisable. No one would put to me VIAB at $36.00 if the stock was worth $37.00 a share as they would be giving me a built in $100 since options contracts refer to 100 shares, but they would give me VIAB at $36.00 a share if the stock is worth $35.00 a share as it gives them $100 pay day.
What Can I Do if a Put is In the Money?
Usually I close out the trade when I make 33.3% – 50% of my premium. So if I sold this contract for .25 when the market price got to .10 or .15 I would close out the deal keeping the spread. Given the particular set of circumstances I figured it was a good time to come up with some alternatives than just wait. I am sure there are more complicated answers using trade techniques I do not even know the name of yet nevertheless understand, but here are some simple options I came up with:
Sell for a Loss
I could “buy to close” the contract (remember, I sold to open so this would be the opposite transaction). I could then decide to either just lick my wounds and take it as a loss. The good part about this is that the loss wouldn’t be anything crazy since the stock has seemed (at least during the writing of this post) to stabilize. So right this second (mid day 9/21) I can close out of the contract and only lose about $100 (price of contract is at $125).
Roll out of the Trade
Alternatively, I could buy to close the 9/30 Contract at $36 and then start selling other puts to make up for this contract. I think this would be analogous to doubling down on the bet. I could sell other 9/30 contracts at a lower expiration date and/or I could sell other expiration dates.
Stick it Out
As of today Viacom has:
- P/E of 7 vs Industry Average of 15.5
- Operating Margin of 24.9% vs 22.6 Industry Average
- Price to Book of 3.5 vs 3.2 Industry Average
- Yield of 4.42%
- A payout ratio of 30.9%
Is it really the worst thing in the world if I get put this stock at $36.00? Even if it is a few points less than $36? The company is a $14,500,000,000 powerhouse of a company, it will come back. That last point is the reason I don’t use this strategy with pharma companies as they could hit a death spiral pretty easily. So, if I wake up on 10/1 with 100 shares of Viacom I’ll sit back and receive my dividend and sell covered calls until eventually the stock is called from me.