Understanding
Stock Options Trading
and Technical Analysis Basics

Synthetic Short Stock

Synthetic stock options are option strategies that copy the behavior and potential of either buying or selling a stock, but using other tools such as call and put options. A Synthetic Short Stock is a strategy for when you are particularly bearish on a stock. This involves buying a put option and selling a call option at the same strike price with the same expiration date.

In a typical scenario where you had only bought a basic put option, you don't start seeing profit till the stock goes a bit below the strike price. On the other hand, a basic put will cost you the full cost of the put option's premium, and your maximum loss is that premium.

Conversely, a Synthetic Short Stock allows you to see profit the moment your stock goes below the strike price, and the initial premium spent on the put option is offset by the amount made selling the corresponding call option. However, these advantages come with a big caveat: you now risk unlimited losses. If the stock keeps climbing higher and higher, the cost to buy back the call option before expiration will increase correspondingly, making this position very costly if you wrongly predict the direction of the stock movement.

Synthetic Short Stock - Buy 1 ATM Put, Sell 1 ATM Call
Synthetic Short Stock - Buy 1 ATM Put, Sell 1 ATM Call

Summary:

Synthetic Stock Options copy the potential of buying or selling stock, but using different tools. A Synthetic Short Stock is a bearish strategy that involves buying a put and selling a call at the same strike price. You will see unlimited profits if the stock price keeps falling, but also suffer unlimited losses if the stock keeps climbing. Since options are sold in this position, it needs to be closed before expiration.

The Synthetic Long Stock is the opposite in behavior, and is a bullish strategy. A lot of people think of synthetic stock options as a cheap way of playing basic options, since the option premiums are offset by selling the opposite option contracts. However, please bear in mind that this position is similar to trading in futures. If you wrongly predict the stock direction, these synthetics can become very costly.