Put Diagonal Spread
Buy a longer-term put at a higher strike and sell a shorter-term put at a lower strike. A bearish strategy combining time decay with directional bias.
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What is a Put Diagonal Spread?
A put diagonal spread is the bearish counterpart to the call diagonal. You buy a longer-dated put at a higher strike and sell a shorter-dated put at a lower strike. The trade has a bearish bias because the long put is at a higher strike. It also benefits from time decay because the front-month short put decays faster.
This is essentially a "poor man's covered put" — using a longer-dated put as collateral to sell short-term puts against it, generating income on a bearish position.
How to Set It Up
- Buy 1 put at a higher strike with a later expiration (back month)
- Sell 1 put at a lower strike with a nearer expiration (front month)
- Different strikes, different expirations
- Strike selection: The long put should be ITM or ATM for stock-like behavior. The short put should be OTM, below where you expect support.
- Expiration gap: Front month 20-30 days, back month 60-120 days or longer.
The net debit is the cost of the long put minus the credit from the short put.
When to Use This Strategy
Use a put diagonal when:
- You are moderately bearish over the medium term
- You want to combine time decay income with bearish exposure
- The stock is in a slow downtrend
- You want to sell short-term puts repeatedly against a long-dated put position
- You want a cheaper alternative to simply buying a long-term put
The trade works best when the stock drifts down gradually toward the short put strike over time.
Example Trade
Stock XYZ is trading at $100. You are bearish and expect a gradual decline.
- Buy 1 XYZ $105 put expiring in 90 days for $8.50
- Sell 1 XYZ $95 put expiring in 30 days for $1.80
- Net debit: $8.50 - $1.80 = $6.70 ($670 total)
If XYZ drops to $95 at front-month expiration: The short put expires ATM (worthless). The long put is now worth approximately $12 with 60 days left. Value: $1,200 - $670 = $530 profit. Sell another put for next month.
If XYZ stays at $100: The short put expires worthless (you keep $180). The long put is worth roughly $7.50. Sell another put to reduce cost further.
If XYZ rallies to $110: The short put expires worthless. The long put has lost significant value, now worth $2-$3. You are down $370-$470 but can sell another put.
Risk and Reward
- Max profit: Achieved when the stock reaches the short put strike at front-month expiration. Depends on the remaining value of the back-month put.
- Max loss: Net debit paid. $670 in our example. Occurs if the stock rallies sharply.
- Breakeven: Approximately the long put strike minus the net debit, adjusted for time value.
Like the call diagonal, the power is in repeated selling. Each cycle of selling a front-month put reduces your cost basis on the bearish position.
Tips and Common Mistakes
- Do not let the short put go deep ITM. If the stock drops fast, roll the short put down and out.
- Buy the long put ITM for more intrinsic value and less time decay on your long leg.
- Be ready for early assignment on the short put if it goes deep ITM.
- The trade loses money if the stock rallies. Have a stop loss plan for the overall position.
Related Strategies
- Put Calendar Spread — same strikes, different expirations
- Bear Put Spread — same expiration, different strikes
- Call Diagonal Spread — the bullish version using calls
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