Using Options to Bide Your Time

For example, with Magna International(MGA Quote) -- one auto supplier that has not declined as much as the others I mentioned -- trading at $80.50, one can sell the August $80 call for $2 and buy the August $85 call for 25 cents, giving the sale of the spread a net credit of $1.75. This premium collected represents the maximum profit one can achieve if Magna shares are below $80 on the Aug. 20 expiration day. Buying the $85 call for a mere 20 cents, or $20 per contract, provides insurance that your maximum loss will be limited to $3.25 per spread if Magna suddenly rallies in the next two weeks.

As a comparison, a purchase of the August $80/$75 put spread would cost a net debit of $2 and provide a maximum profit of $3 per spread. While the risk is greater than the reward shorting the call spread, I feel more confident that Magna shares will not surpass their $81.75 break-even point on the vertical call spread than I do about the stock dropping to the put spread's $78 break-even point in the next two-week period. Also, given the short time frame and the nature of theta, I am much more comfortable having the wind of accelerating time decay at my back.

Generally speaking, with few immediate catalysts but a lot of longer-term uncertainty, it is wise to reserve the purchase of options -- whether it be put spreads or any position that requires movement in the underlying security to produce a profit -- to options with at least four months remaining until expiration. In any time frame shorter than two months, it might make sense to look at net credit or time spread positions.