LONG STOCK POSITION PLUS A PUT 

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A natural use of Options as risk management tools is to protect against price decreases by purchasing puts, thus ensuring that the losses in the combined portfolio do not exceed a certain level.

 

The main drawback of this strategy is the premium cost – so it is common to use out of the money puts when using them as hedges, in order to reduce the upfront Premium.

 

The distance of the strike to the at the money determines the premium of the option, with lower strikes costing less than higher ones for the same expiration.

 

The strategy limits the downside while preserving unlimited upside from any Underlying appreciation.

 

Uses of the strategy include setting a maximum loss, taking advantage of low volatility environments, and an alternative to stopping out on underperforming positions. 

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Long Stock plus Put Payout Example. 

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The example below illustrates the payout of a position, consisting of the combination of a long stock and a long put – for the equal units of underlying. We also present the return over the cash invested.

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The Investment in the stock is $100 and the put premium is $3, adding to the initial investment amount. In the example the Put Strike is 90.

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