CIT Group Put Options (VVFMI / CITMI): Bear Put Spread Opportunity
The premium on January 2011 $1 put options (VVFMI) is $0.75. This leaves the buyer with a maximum gain of $0.25, which he will realize if CIT Group files for bankruptcy, and a total loss if the equity remains intact. Meanwhile, January 2010 $1 put options (CITMI) are trading at $0.55. The simultaneous purchase of CITMI and sale of VVFAI creates a nearly perfect hedge that should perform well under any possible scenario.
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What if CIT files for bankruptcy after Jan 2010?
Selling both puts blows up if the equity is on life support through the year and blows up after the Jan10 puts expire, no?
The solution would be to buy a longer-dated put instead of the Jan10′s.