InvestorQ : Is there a specific strategy for me to follow if I am moderately bearish on the US dollar and expect the dollar to weaken marginally?
Arti Chavan made post

Is there a specific strategy for me to follow if I am moderately bearish on the US dollar and expect the dollar to weaken marginally?

Answer
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Maniish Lofar answered.
1 year ago


You need to be very clear that when you buy the option you pay premium. You can afford to pay the premium only when the price movement is going to be big enough to make profits for you after covering the premium cost. If you are moderately bearish on the US Dollar you can do a put spread on the dollar. Here you buy a higher strike put and sell a lower strike put. The premium received on the lower strike put reduces the overall premium paid on the higher strike put and brings down your overall cost of the option strategy. That is the advantage of a put spread strategy and it must be only done when the view on the dollar is moderately bearish. If you are very bearish on the dollar then you are better off buying a naked put option on the dollar itself. It will be more profitable that way. Thus you can use the put spread only when you are moderately bearish on the dollar or moderately bullish on the rupee as a currency. Check the table below:

Buy Put

73.00

Prem

0.70

Strategy

Put Spread

Sell Put

72.00

Prem

0.40

Buy 73 Put &

Sell 72 Put

Price

Buy Put

Premium

Sell Put

Premium

Net Premium

Buy Put P/L

ITM/OTM

Sell Put P/L

ITM/OTM

Pay-Off

68.00

73.00

0.70

72.00

0.40

0.30

5.00

ITM

4.00

ITM

0.70

68.50

73.00

0.70

72.00

0.40

0.30

4.50

ITM

3.50

ITM

0.70

69.00

73.00

0.70

72.00

0.40

0.30

4.00

ITM

3.00

ITM

0.70

69.50

73.00

0.70

72.00

0.40

0.30

3.50

ITM

2.50

ITM

0.70

70.00

73.00

0.70

72.00

0.40

0.30

3.00

ITM

2.00

ITM

0.70

70.50

73.00

0.70

72.00

0.40

0.30

2.50

ITM

1.50

ITM

0.70

71.00

73.00

0.70

72.00

0.40

0.30

2.00

ITM

1.00

ITM

0.70

71.50

73.00

0.70

72.00

0.40

0.30

1.50

ITM

0.50

ITM

0.70

72.00

73.00

0.70

72.00

0.40

0.30

1.00

ITM

-

ATM

0.70

72.50

73.00

0.70

72.00

0.40

0.30

0.50

ITM

-

OTM

0.20

73.00

73.00

0.70

72.00

0.40

0.30

-

ATM

-

OTM

-0.30

73.50

73.00

0.70

72.00

0.40

0.30

-

OTM

-

OTM

-0.30

74.00

73.00

0.70

72.00

0.40

0.30

-

OTM

-

OTM

-0.30

74.50

73.00

0.70

72.00

0.40

0.30

-

OTM

-

OTM

-0.30

75.00

73.00

0.70

72.00

0.40

0.30

-

OTM

-

OTM

-0.30

75.50

73.00

0.70

72.00

0.40

0.30

-

OTM

-

OTM

-0.30

76.00

73.00

0.70

72.00

0.40

0.30

-

OTM

-

OTM

-0.30

76.50

73.00

0.70

72.00

0.40

0.30

-

OTM

-

OTM

-0.30

77.00

73.00

0.70

72.00

0.40

0.30

-

OTM

-

OTM

-0.30

In the above case, we have simulated the profits and losses on the put spread strategy under various price levels. We can infer the following from the above table:

· The put spread involves buying 73 put at 0.70 and selling a 72 put at 0.40. Hence the net cost of 0.30 will be the maximum loss on this strategy. As you can see in the payoff table, at no point does the total loss go beyond 0.30.

· The idea of selling the 72 put is to reduce the cost of buying the 73 put and this strategy works when you are moderately bearish on the weakening of the US dollar or the strengthening of the Indian rupee.

· The maximum profit of this put spread is achieved at the lower strike at which the put is sold i.e. Rs.72 strike. As you can see, the maximum profit of 0.70 is achieved at the price level of 72 and below that point the profits are flat. Whatever you gain on the 73 put is lost on the 72 put beyond this point.

· This is a good strategy when you are expecting the dollar to weaken marginally or the rupee to strengthen marginally. This is called a moderately bearish strategy.

Let us tweak the above put spread example a little bit and see what happens if you had sold the 71 strike put option instead of the 72 strike put option at a premium of 0.10? How would it make a difference? Let us check it out?

Buy Put

73.00

Prem

0.70

Strategy

Put Spread

Sell Put

71.00

Prem

0.10

Buy 73 Put &

Sell 71 Put

Price

Buy Put

Premium

Sell Put

Premium

Net Premium

Buy Put P/L

ITM/OTM

Sell Put P/L

ITM/OTM

Pay-Off

68.00

73.00

0.70

71.00

0.10

0.60

5.00

ITM

3.00

ITM

1.40

68.50

73.00

0.70

71.00

0.10

0.60

4.50

ITM

2.50

ITM

1.40

69.00

73.00

0.70

71.00

0.10

0.60

4.00

ITM

2.00

ITM

1.40

69.50

73.00

0.70

71.00

0.10

0.60

3.50

ITM

1.50

ITM

1.40

70.00

73.00

0.70

71.00

0.10

0.60

3.00

ITM

1.00

ITM

1.40

70.50

73.00

0.70

71.00

0.10

0.60

2.50

ITM

0.50

ITM

1.40

71.00

73.00

0.70

71.00

0.10

0.60

2.00

ITM

-

ITM

1.40

71.50

73.00

0.70

71.00

0.10

0.60

1.50

ITM

-

ITM

0.90

72.00

73.00

0.70

71.00

0.10

0.60

1.00

ITM

-

ATM

0.40

72.50

73.00

0.70

71.00

0.10

0.60

0.50

ITM

-

OTM

-0.10

73.00

73.00

0.70

71.00

0.10

0.60

-

ATM

-

OTM

-0.60

73.50

73.00

0.70

71.00

0.10

0.60

-

OTM

-

OTM

-0.60

74.00

73.00

0.70

71.00

0.10

0.60

-

OTM

-

OTM

-0.60

74.50

73.00

0.70

71.00

0.10

0.60

-

OTM

-

OTM

-0.60

75.00

73.00

0.70

71.00

0.10

0.60

-

OTM

-

OTM

-0.60

75.50

73.00

0.70

71.00

0.10

0.60

-

OTM

-

OTM

-0.60

76.00

73.00

0.70

71.00

0.10

0.60

-

OTM

-

OTM

-0.60

76.50

73.00

0.70

71.00

0.10

0.60

-

OTM

-

OTM

-0.60

77.00

73.00

0.70

71.00

0.10

0.60

-

OTM

-

OTM

-0.60

In the above case, we have simulated the profits and losses on the put spread strategy under various price levels. We can infer the following from the above table:

· The put spread involves buying 73 put at 0.70 and selling a 71 put at 0.10. Hence the net cost of 0.60 will be the maximum loss on this strategy. As you can see in the payoff table, at no point does the total loss go beyond 0.60.

· The idea of selling the 71 put is to reduce the cost of buying the 73 put and this strategy only works when you are moderately bearish on the weakening of the US dollar or the strengthening of the Indian rupee.

· The maximum profit of this call spread is achieved at the lower put strike of 71 at which the put is sold i.e. Rs.71 strike. As you can see, the maximum profit of 1.40 is achieved at the price level of 71 and below that the profits are flat. Whatever you gain on the 73 put is lost on the 71 put beyond this point.

When should you sell the 71 put instead of the 72 put? That depends on your view of the lower limit for the dollar. You must notice one thing. You earn just 0.10 on selling the 71 put, which is making a very small impact on your overall cost. At the same time, the maximum profit is higher at 1.40 in this case. This is the trade-off that you will have to make. This is a good strategy when you are expecting the dollar to weaken marginally or the rupee to strengthen moderately.