Option Strategies Details

A trader who wants to speculate on a large increase in price and flat to increasing volatility can open a Bearish Risk Reversal. The trader may pay a small debit, receive a small credit, or even open the position for exactly $0.

Suppose stock XYZ is trading at $45. You forecast a large decrease in XYZ price and an increase (or no decrease) in volatility.

You open a $47 / $43 Bearish Risk Reversal (selling the $47 Call and buying the $43 Put) for exactly $0.00, no cost, to express this view. How is this possible? The $47 Call bid price is $0.80 and the $43 Put ask price is $0.80, so when you sell the Call you receive am $0.80 credit, and you then use that $0.80 credit to buy the Put, netting out to $0.

This trade breaks even if XYZ price remains between $43 and $47, since the trade was entered for $0. Above $47, your PnL becomes negative quickly as the sold Call works against you and the bought Put approaches zero value. Below $43, your PnL becomes positive quickly as the bought Put gains value and the sold Call loses value. The time component of your trade plan may not extend all the way to expiration, so you should be prepared to close at a variety of XYZ prices as the market value of your $47 / $43 Bearish Risk Reversal changes. Because the price of XYZ can theoretically decrease down to $0, Bearish Risk Reversals carry a high "risk of ruin". However, a trader can reduce this risk by selling a Call Credit Spread, which has a defined max loss, rather than just selling a Call.