Two Plus Two Older Archives - Options trading for Party Poker

I have very little experience with options. If I did, I wouldn't be asking about them on a poker message board. But basically, I think there's a good chance Party could go down in the medium term, but be very volatile in the short term. If you just short it, and it zooms up, you're screwed. If you buy puts, you're buying the right to sell the stock at a fixed price some time in the future. Say a stock is trading at $40. You can buy a $30 1-year put, which gives you the right to sell that stock for $30 any time in the next year. If the stock stays at $40, this right is worthless. (Why would you want to sell a $40 stock for $30?) If the stock goes to $20, you can buy it on the market for $20, and then sell it through your put at $30, for a gross profit of $10/put.

This limits your downside risk, because you can never lose more than you spent on the puts. The price of a put varies based on the stock's current price, the "strike price" (the price you sell at), the duration of the put, and the volatility of the stock. If the $40 stock goes to $80, you haven't lost any more than if it stayed at $40. In contrast, if you sell the stock short at $40 and it goes to $80, you owe $40 per share.

No one really knows how long poker will remain popular, but I think there's a good chance its rapid expansion will slow down. Here's the situation I'm looking for: Party's stock goes up immediately after the IPO, so it's priced around 40 P/E or so. I buy 1-2 year puts at a range of out-of-money strike prices. Online poker's popularity peaks when this year's WSOP is televised, and decreases from there. Party fails to meet its high-growth expectations, and it gets revalued to 10-20 P/E.

Step 3: Profit!