SteadyOptions is an options trading forum where you can find solutions from top options traders. Join Us!

We’ve all been there… researching options strategies and unable to find the answers we’re looking for. SteadyOptions has your solution.

Protective Put: Defensive Option Strategy Explained


The protective put (sometimes called a married put) strategy is one of the simplest, but most, popular, ways options are used in the market. Here we look at this defensive strategy and when and how to put it in place. Options provide investors and traders with an extremely versatile tool that can be used under many different scenarios.

Options can be used to make directional bets on a market, to hedge a long or short position in the underlying asset and to make bets on changes in implied volatility. Options can also be used to generate income.

 

One of the biggest uses of options is to mitigate risk on a long position in a stock or other asset.

 

Description of the Protective Put Strategy

The protective put is a relatively simple trading or investing strategy designed to try to hedge the risk associated with a long position.

Married Put Options Strategy

 

For example, if a trader or investor is long 100 shares of stock ABC, then he or she may look for ways to protect against a decline in the stock price.

 

The protective put strategy simply involves the purchase of a long put option that may potentially gain in value if the stock price declines. Here is a simple example:

 

Protective Put Example

Trader Joe is bullish on stock ABC and owns 100 shares at an average purchase price of $40 per share.

 

The company has a major earnings announcement coming up in a few weeks, and Joe wants to hedge his downside risk in the stock using protective puts.

 

With the stock currently trading at $45 per share, Joe decides to purchase the two month $40 put option (ie the strike price is $42) for a premium of $4.

 

Protective Put options strategy

Protective Put Example

 

If the earnings announcement is considered bullish and the stock price rises, the put option can either be sold back to the market at a loss or can be held until expiration.

 

If the stock price is above the option strike price of $40 at expiration, then the option simply expires worthless and Joe is out the $4 premium paid for the put.

 

If the stock price were to plummet, however, Joe's put could potentially gain in value and possibly offset some or even all of the losses on the stock.

 

If the stock price is below the option strike price of $40 at expiration, then Joe has the right to sell his shares at $40 regardless of how low the stock price goes.

 

For example, if the stock price declined all the way to $35 per share, Joe's losses would be limited to the $4 option premium paid per share.

 

When To Put It On

The protective put is used to try to mitigate downside risk on a long position, and can be used under a variety of circumstances. In the example used above, the trader wanted to try to hedge the downside risk that could come from a major earnings announcement.

 

In another scenario, a long-term investor might continually purchase long puts on a stock position that he believes could see a sharp rise in volatility. Long puts are also long vega.

 

In yet another case, a trader or investor could purchase a put if implied volatility levels are very low, thus making the options relatively less expensive.

 

Pros of Strategy

The protective put's primary purpose is to hedge downside risk of a long position in the underlying asset.

 

Options can provide a degree of protection for a long position as may also potentially produce a profit if the shares drop or if there is a significant increase in implied volatility levels.

 

Because the put option is purchased, the risk on the put position is limited to the premium paid for the option.

 

Cons of Strategy

The strategy does come with some cons as well. Because options have an expiration date, the option will lose value as time passes with all other inputs remaining constant.

 

Options that are close to the current share price may also be prohibitively expensive, forcing the trader or investor to purchase puts that are further away from the money.

 

Although puts that are further away from the money may provide a hedge against a major sell-off, the trader or investor is still exposed to a degree on the stock.

 

A put that is a few dollars out of the money may not gain enough value to provide a hedge against a minor to moderate decline in the stock.

image.png

 

Risk Management

Risk management for a protective put can be accomplished in various ways.

 

If one is hedging a long position, he or she may be willing to simply hold the option until it expires knowing that they will lose the entire premium paid.

 

Another way to manage risk may be to sell the put back to the market if it loses a certain amount of value. Some traders may decide, for example, to sell a put back to the market if it loses half of its value.

 

Another method of risk management could include rolling the put out to a later expiration date.

 

Possible Adjustments

There are several ways to adjust a long put position. The trader or investor could initially buy a put that is further from the money, and roll it closer to the stock price as expiration gets closer and the options become less expensive.

 

Another method could be to roll the long put out to a later expiration date using the same or even a different strike price. The trader or investor could even decide to spread the long option by selling an out-of-the-money put against it to lower the cost basis.

 

Using a put to protect a long position in the underlying is a relatively simple position, but it does come with its own set of risks.

 

Traders and investors must decide how much risk they are willing to assume on the stock price, and must also decide what they are willing to pay for the hedge.

 

Used under the right circumstances, the long put can provide a degree of protection for a long position, but that potential protection does come at a cost.

Bottom Line

Protective puts limit potential losses from owning stocks and don’t impact maximum gains from owning stocks. However, like other types of insurance, you have to pay a premium to buy protective puts. Over the long term, buying protective puts can drag down your investment returns.
 

Traders and investors must decide how much risk they are willing to assume on the stock price, and must also decide what they are willing to pay for the hedge.

 

Used under the right circumstances, the long put can provide a degree of protection for a long position, but that potential protection does come at a cost.

 


About the Author: Chris Young has a mathematics degree and 18 years finance experience. Chris is British by background but has worked in the US and lately in Australia. His interest in options was first aroused by the ‘Trading Options’ section of the Financial Times (of London). He decided to bring this knowledge to a wider audience and founded Epsilon Options in 2012.


Subscribe to SteadyOptions now and experience the full power of options trading at your fingertips. Click the button below to get started!

Join SteadyOptions Now!

What Is SteadyOptions?

Full Trading Plan

Complete Portfolio Approach

Real-time trade sharing: entry, exit, and adjustments

Diversified Options Strategies

Exclusive Community Forum

Steady And Consistent Gains

High Quality Education

Risk Management, Portfolio Size

Performance based on real fills

Subscribe to SteadyOptions now and experience the full power of options trading!
Subscribe

Non-directional Options Strategies

10-15 trade Ideas Per Month

Targets 5-7% Monthly Net Return

Visit our Education Center

Recent Articles

Articles

  • SPX Options vs. SPY Options: Which Should I Trade?

    Trading options on the S&P 500 is a popular way to make money on the index. There are several ways traders use this index, but two of the most popular are to trade options on SPX or SPY. One key difference between the two is that SPX options are based on the index, while SPY options are based on an exchange-traded fund (ETF) that tracks the index.

    By Mark Wolfinger,

    • 0 comments
    • 434 views
  • Yes, We Are Playing Not to Lose!

    There are many trading quotes from different traders/investors, but this one is one of my favorites: “In trading/investing it's not about how much you make, but how much you don't lose" - Bernard Baruch. At SteadyOptions, this has been one of our major goals in the last 12 years.

    By Kim,

    • 0 comments
    • 883 views
  • The Impact of Implied Volatility (IV) on Popular Options Trades

    You’ll often read that a given option trade is either vega positive (meaning that IV rising will help it and IV falling will hurt it) or vega negative (meaning IV falling will help and IV rising will hurt).   However, in fact many popular options spreads can be either vega positive or vega negative depending where where the stock price is relative to the spread strikes.  

    By Yowster,

    • 0 comments
    • 785 views
  • Please Follow Me Inside The Insiders

    The greatest joy in investing in options is when you are right on direction. It’s really hard to beat any return that is based on a correct options bet on the direction of a stock, which is why we spend much of our time poring over charts, historical analysis, Elliot waves, RSI and what not.

    By TrustyJules,

    • 0 comments
    • 470 views
  • Trading Earnings With Ratio Spread

    A 1x2 ratio spread with call options is created by selling one lower-strike call and buying two higher-strike calls. This strategy can be established for either a net credit or for a net debit, depending on the time to expiration, the percentage distance between the strike prices and the level of volatility.

    By TrustyJules,

    • 0 comments
    • 1,477 views
  • SteadyOptions 2023 - Year In Review

    2023 marks our 12th year as a public trading service. We closed 192 winners out of 282 trades (68.1% winning ratio). Our model portfolio produced 112.2% compounded gain on the whole account based on 10% allocation per trade. We had only one losing month and one essentially breakeven in 2023. 

    By Kim,

    • 0 comments
    • 5,890 views
  • Call And Put Backspreads Options Strategies

    A backspread is very bullish or very bearish strategy used to trade direction; ie a trader is betting that a stock will move quickly in one direction. Call Backspreads are used for trading up moves; put backspreads for down moves.

    By Chris Young,

    • 0 comments
    • 9,487 views
  • Long Put Option Strategy

    A long put option strategy is the purchase of a put option in the expectation of the underlying stock falling. It is Delta negative, Vega positive and Theta negative strategy. A long put is a single-leg, risk-defined, bearish options strategy. Buying a put option is a levered alternative to selling shares of stock short.

    By Chris Young,

    • 0 comments
    • 11,137 views
  • Long Call Option Strategy

    A long call option strategy is the purchase of a call option in the expectation of the underlying stock rising. It is Delta positive, Vega positive and Theta negative strategy. A long call is a single-leg, risk-defined, bullish options strategy. Buying a call option is a levered alternative to buying shares of stock.

    By Chris Young,

    • 0 comments
    • 11,519 views
  • What Is Delta Hedging?

    Delta hedging is an investing strategy that combines the purchase or sale of an option as well as an offsetting transaction in the underlying asset to reduce the risk of a directional move in the price of the option. When a position is delta-neutral, it will not rise or fall in value when the value of the underlying asset stays within certain bounds. 

    By Kim,

    • 0 comments
    • 9,662 views

  Report Article

We want to hear from you!


There are no comments to display.



Create an account or sign in to comment

You need to be a member in order to leave a comment

Create an account

Sign up for a new account. It's easy and free!


Register a new account

Sign in

Already have an account? Sign in here.


Sign In Now

Options Trading Blogs