What is Put Ratio Spread | Motilal Oswal

What is Put Ratio Spread

When it comes to options trading, investors seek well-rounded strategies to help navigate the dynamic and unpredictable nature of financial markets. One such strategy that is gaining considerable popularity is the put ratio spread. This premium-neutral strategy offers a unique approach to capitalizing on market movements while managing risk effectively.

What is the put ratio spread?

The put ratio spread is an options trading strategy designed to benefit from a moderately bearish market outlook. At the same time, it also helps with reducing upfront costs or even receiving upfront credit.

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The strategy here involves buying options at a higher strike and selling more options at a lower strike of the same underlying stock. This strategy allows traders to balance their risk exposure and profit from a downward movement in the underlying asset.

Constructing a Put Ratio Spread

To construct a put ratio spread, follow these steps:

Buy 1 In-the-Money (ITM) or At-the-Money (ATM) put option.

Simultaneously sell 2 Out-the-Money (OTM) put options.

Let's consider an example using the NIFTY index:

  • Current market price: Rs 9,500
  • Strike Price for Buy ATM Put: Rs 9,500 (Premium Paid: Rs 150)
  • Strike Price for Sell OTM Put: Rs 9,400 (Premium Received: Rs 75)
  • Net Premium Paid or Received: Rs 0
  • Upper Breakeven: Rs 9,500
  • Lower Breakeven: Rs 9,325
  • Lot Size: 75

Assuming the current trading price of NIFTY is Rs 9,500, you anticipate a decrease to Rs 9,400 by the time of expiry. To implement the put ratio spread strategy, you purchase one lot of the 9,500 put strike at Rs 150. Simultaneously you sell two lots of the 9,400 put strike at Rs 75. The net premium paid or received in this trade is zero.

Also, in this scenario, the maximum profit would be Rs 5,625 (75 x 75). 

This profit will only occur if the underlying asset expires at Rs 9,400. If this occurs, the short put options strike will have no value, while the 9,500 strike will possess some intrinsic value.

When to initiate the put ratio spread?

The put ratio spread strategy is suitable for investors who anticipate a bearish market outlook and expect a decline in asset prices. Traders typically initiate a put-back spread after conducting a thorough analysis and evaluating market indicators that suggest potential volatility and downward movement.

What are the risks and rewards of a put ratio spread?

Put ratio spreads come with specific risks and rewards. It is therefore crucial to understand them before implementing this strategy -

  • Risk: Unlimited, if the underlying asset breaches the lower breakeven point.
  • Reward: Limited, with maximum profit occurring when the underlying asset's price is equal to the strike price of the short put option.

How to manage risk with a put ratio spread?

Implementing risk management techniques is crucial while trading with a put ratio spread. Here are some strategies to manage risk effectively -

  • Adjust the ratio: You can change the ratio between the number of options bought and sold. This way you can tailor the strategy to your specific risk tolerance and market outlook.
  • Use stop-loss orders: Placing stop-loss orders on your options positions can help limit potential losses in case the market moves against your strategy.
  • Monitor market conditions: Keep an eye on market volatility and time decay to ensure your Put Ratio Spread remains profitable.

What is the impact of Option Greeks?

Option Greeks play a crucial role in understanding the strategy's sensitivity to different factors -

  • Delta: Positive delta if the net premium is received, negative delta if the net premium is paid.
  • Vega: Put Ratio Spreads have a negative vega, making them sensitive to changes in implied volatility.
  • Theta: Theta has a positive impact on the strategy, as time passes.
  • Gamma: Put Ratio Spreads have a short gamma position, making profitability susceptible to significant downward movements.

Is the put ratio spread right for you?

The put ratio spread is a versatile and powerful options trading strategy. It can help you profit from limited downside moves in the underlying asset while minimising risk. By understanding the mechanics of the strategy, you can make informed decisions about whether the put ratio spread is the right tool for


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