“Put Backspread” is a strategy that must be devised when the investor is bearish on market direction and bullish on volatility.
It works well if the investor is bullish as well as bearish on the market with a bias to the downside.
This strategy involves selling an “In- the-Money Put Option” and buying two lots of “Out -of-the-Money Put Option”. Both Put options must have the same underlying security and expiration month.
“Put Backspread” is similar to Long Straddle except the payoff flattens out on the upside. Investor makes profit when prices rise, although the gains are greater if the market falls.
Investor view: Bearish on direction and bullish on volatility of the Stock/ Index.
Risk: Limited to difference in Strike price of Short Put – Strike price of Long Put +/- net premiumpaid/received.
Reward: Unlimited on upside and limited on downside.
Breakeven: Strike price of Long Put + Strike price of Long Put – Strike price of Short Put+/-net premiumreceived/paid. In case of net inflow of premium there is one more breakeven point which is calculated as (Strike price of Short Put – net premium received).