Option Trading Examples: Buying Protective Puts.
This is a review of a investment product called a “Protective Put”.
After reading this review, you may wish to buy this product.
[graphic by @shortsegments]
One way to use options to protect you from losses is to buy a Put option. Put options give you the right to sell someone your stock at a previously agreed upon price. It is like insurance for your stock investment. In fact the money you pay to purchase the Put option is called a Premium, just like the payment you make for your car or homeowners insurance. The Put option serves the same purpose, it protects you from a loss. And just like your insurance you have to pay for a Put every month. I believe that put options were one of the first products sold on the options market.
Example:
Bob buys 1000 shares of Apple stock for 100$ per share. This costs him 100,000$.
His total investment is $100,000.00 USD
His total investment at risk is $100,000.00 USD.
If Apple has a bad earnings report the month after Bob buys the shares, the price may drop.
If the price falls 25 dollars per share to 75$ Bob has lost 25,000$ on paper.
Many investors would sell the stock to limit their loss to 25,000$.
But Bob is different, Bob bought puts to protect his investment.
He paid 1$ per share or 1000$ for the right to sell his stock for 90$ per share.
When the stock price fell to 75$, Bob “exercised his Option” to sell his stock at 90$ Per share and Bob got $90,000 of his $100,000 investment back.
Bob still lost 10,000$ plus the price of the Option 1000$, or a total of 11,000$.
But Bob would have lost 25,000$ if he didn’t buy the Put option.
This Put protected him so his loss was only 11,000$.
The 1000$ he paid for the Puts saved him 14,000$.
This is called Buying a Protective Put.
People frequently buy “Protective Puts” during a time of volatility, like before an earnings announcement or when other bad news is expected. You choose the price you can sell the stock at, but the higher the price, the more expensive the Put.
If you have questions, please ask in the comments below.
✍🏼 By Shortsegments.
Option Trading Examples: Buying Protective Puts.
Upvoted and resteemed!
Hi Shortsegments
This is a good explanation of the basics of puts and a hint as to the history and origin of the options market. A bite sized amount of information. Well done.
Lalai
This strategy is quite appealing and can be used not only as protective, but also as a source of income with the right mix of put and call options. Still seeing the matrix of different prices of both of them makes my head hurt :P
The updown side of this is the amount of money you need to start in the stock market and trade it as a source of income, unless you prove yourself to a propietary firm and trade with OPM ;)