Selling put options is one way to generate extra income in an individual retirement account. IRA and option trading rules prohibit the selling of "naked" puts, but you can use the cash secured put strategy to sell puts in a retirement account. To use puts in your IRA account you must first get options authorization put on the account by your brokerage firm.
Options Trading Authorization
To trade options in your IRA you must first apply to the broker on the account for options trading authorization. The application consists of a few extra pages covering your assets and trading experience. Options authorization will be set at a specific level for strategy risks. An IRA will be approved for the selling of covered puts and calls and the purchase of both types of options. Once you have authorization, the trade screens on your online account will allow you to submit the different types of option trades.
Selling Put Options
A put option gives the buyer the right to sell 100 shares of the specified stock at a pre-set price, called the strike price. The option has an expiration date. As the put option seller, you are obligated to buy the shares at the strike price if the buyer chooses to exercise the option. Your profit in the trade is the premium you get for selling the option and the trade works if you do not have to buy the shares. If the stock underlying a put you sold stays above the strike price, the option will not be exercised and you keep the premium. If the stock drops below the strike price, you get to buy the shares at the strike price and lose money if the shares fall lower.
Cash Secured Puts
Since a falling stock price can lead to large losses on sold put options, the cash secured put strategy will restrict cash in your IRA account to cover the cost of the shares if a sold put is exercised. For example, you sell one put with a strike price of $30 per share. Since the put requires you to potentially buy 100 shares, $3,000 in cash will be restricted in your account. If the put expires without being exercised or you buy back the sold option, the cash will be released and you can set up another cash secured put trade or use the money for another type of trade.
The cash secured put strategy will provide similar returns to writing covered calls on the same stock. A covered call involves buying the stock and selling call options. With cash secured puts you put up the cash and sell put options. Both are profitable if the stock stays level or rises and can lose money if the stock declines. Differences in the profit potential depend on the premium differences between puts and calls for strike prices that are the same distance from the current stock price.
Tim Plaehn has been writing financial, investment and trading articles and blogs since 2007. His work has appeared online at Seeking Alpha, Marketwatch.com and various other websites. Plaehn has a bachelor's degree in mathematics from the U.S. Air Force Academy.