Far-out-of-the-money puts: small credits and large tail losses
Small premium can be overwhelmed by fees and rare losses. Compare incremental return and retained downside, including interest on collateral.
By OptionsKing. Publisher and editorial methods.
What you will learn
By the end of this lesson, you should be able to:
- Calculate premium net of fees.
- Compare incremental return with cash treatment.
- Measure a rare loss against small credits.
Use the distant-strike table to compare credit, funding, costs and a large decline. A high modeled win rate does not establish attractive compensation. Then separate option premium from cash yield so the same collateral interest is not omitted from one side of the comparison.
The bottom of a real put board
AMD at $118, 46 days out, 45 percent implied volatility. Commissions assumed at $0.65 a contract each way, which is $1.30 round trip.
| Strike | Credit | Net of fees | Delta | Assignment odds | Cash secured | Annualized | Fees as a share of the credit |
|---|---|---|---|---|---|---|---|
| $76 | $1 | -$0.30 | 0.002 | 0.3% | $7,600 | negative | 130% |
| $82 | $6 | $4.70 | 0.008 | 1.3% | $8,200 | 0.5% | 21.7% |
| $88 | $19 | $17.70 | 0.026 | 3.7% | $8,800 | 1.6% | 6.8% |
| $94 | $54 | $52.70 | 0.062 | 8.4% | $9,400 | 4.4% | 2.4% |
| $100 | $126 | $124.70 | 0.125 | 16.1% | $10,000 | 9.9% | 1.0% |
| $106 | $252 | $250.70 | 0.216 | 26.6% | $10,600 | 18.8% | 0.5% |
Look at the $76 strike. The commission is larger than the premium. The trade is a guaranteed loss at the moment you place it, and the win rate is 99.7 percent.
The five-cent trade, fully costed
Take the $82 put, which is the one that actually looks tempting. Six dollars of credit, a 1.3 percent chance of assignment, a 2.5 percent chance of even touching the strike.
- Credit $6, net of commissions $4.70.
- Collateral tied up: $8,200, for 46 days.
- Annualized on that collateral: 0.5 percent.
- Run it 7.9 times a year and you make $37.29.
At an assumed 4.2% cash yield, $8,200 earns $344.40 over a year before tax. Check whether the reserved collateral also earns that yield: the relevant comparison may be cash yield plus incremental option P/L versus cash yield alone.
The modeled premium after fees is small relative to the cash yield, but it is not necessarily a substitute for that yield. Its incremental benefit must justify the additional stock-purchase obligation.
The steamroller, in years
The other half of the saying, priced.
| AMD falls | Stock | Loss on the $82 put | Cycles of premium to repay | Years |
|---|---|---|---|---|
| 25% | $88.50 | none, still out of the money | ||
| 35% | $76.70 | $524 | 111 | 14.1 |
| 40% | $70.80 | $1,114 | 237 | 29.9 |
| 50% | $59.00 | $2,294 | 488 | 61.5 |
Thirty years of nickels for one bad quarter. A 40 percent drawdown in a semiconductor name is not a tail event; the running book saw 23.8 percent in a single 46-day cycle.
The comparison that matters
If reserved cash continues to earn interest, the seller may receive cash yield plus option profit, not premium instead of interest. Confirm broker treatment. Compare the option's incremental compensation and risk with leaving the same funds uncommitted; the distant and nearer strikes also have different losses.
The distant strike has a smaller modeled assignment probability and a smaller loss in the same crash scenario. It also pays much less and gives up more of its credit to fees. These are different risk-return dimensions, not a trade that is worse on every measure.
| $82 put, 0.008 delta | $106 put, 0.216 delta | |
|---|---|---|
| Premium a year | $37 | $1,989 |
| Annualized on collateral | 0.5% | 18.8% |
| Assignment odds per cycle | 1.3% | 26.6% |
| Loss if the stock falls 40% | $1,114 | $3,268 |
| Years of premium that loss costs | 29.9 | 1.6 |
| Commissions as a share of the credit | 21.7% | 0.5% |
The 0.22 delta put loses three times as much in the crash and repays it in nineteen months. The 0.008 delta put loses less and needs thirty years. Being further from the strike reduced the size of the loss and multiplied the time to recover from it, because it cut the income by 98 percent to cut the loss by 66 percent.
That is the actual objection to picking up pennies, and it is not about the win rate. It is that the premium falls away faster than the risk does. Risk-neutral valuation alone does not rank real-world expected returns, so what separates them is the ratio of what you collect to what you tie up and what you pay to trade.
When the far strike is right anyway
Two honest cases, both narrow.
You want the shares at that price. If $82 is a price you would be pleased to own AMD at, the put is a paid limit order and the premium is not the point. Cluster E makes that case properly.
Your collateral is doing something else. In a margin account the cash is not idle, so the money market comparison above does not apply, and the return on margin rather than on the strike can look reasonable. That is a different trade with a different risk, and it is the next page.
The decision is whether the incremental net premium warrants the obligation. Include actual collateral yield, costs, and adverse scenarios consistently on both sides.
Check your understanding
Is the distant put worse on every risk measure than the nearer put?
Show the explanation
No. It can lose less under the same decline and assign less often, while offering much less credit and poor cost efficiency. The trade-off needs both absolute loss and compensation, not one recovery ratio.
Common questions
Is selling far out-of-the-money puts safe?
It has a high win rate and a poor ratio. A 0.008 delta put on a $118 stock pays $37 a year on $8,200 of collateral, and a 40 percent decline in the stock costs $1,114, which is 30 years of that premium.
How much do commissions matter on cheap options?
Enormously. At $0.65 a contract each way, a $1 credit is a guaranteed loss and a $6 credit gives up 21.7 percent to fees. On a $252 credit the same commissions are 0.5 percent.
Does a lower delta strike give a better risk-adjusted return?
Not on this arithmetic. Moving from 0.216 delta to 0.008 delta cut the annual premium by 98 percent and the crash loss by only 66 percent, so the time to repay one bad drawdown went from 1.6 years to 29.9.
Is selling a five-cent put better than leaving the cash in a money market?
Compare the incremental premium after costs and losses with the extra obligation. Secured collateral may also earn interest, depending on the broker and account, so it is not necessarily a choice between premium and cash yield.
Sources
Rules and thresholds above were checked against these documents on August 4, 2026. Exchange and broker rules change. Confirm anything you are about to act on with your own broker.
Keep reading
Do the math on your own trade
Every price in this article is an illustrative worked example, not a quote. Read Running the book for the rest of the series, and the disclaimer before you act on any of it. Selling options carries real risk of loss, and the loss can be far larger than the premium you collected.