For items you value most, you generally buy insurance. Whether a home, a car, or your own health, buying insurance makes sense. But what about your retirement nest-egg or your trading portfolio – have you insured them?
The married put options strategy is a way to insure stocks in your portfolio. A nice feature of the married put is your downside risk is limited, but the upside potential is unlimited – the higher the stock goes, the more money you make.
Like any insurance policy, you don’t want to pay for it when you don’t need it because the sum of the premium charges can be costly over time. But every so often, stocks will undergo major declines and, during those periods, married puts can not only help to protect against large portfolio losses but also bring peace of mind by limiting your downside risk.
Like the covered call, the married put is a little more sophisticated than a basic options trade. It combines a long put with owning the underlying stock, “marrying” the two. For each 100 shares of stock, the investor buys one put. This strategy allows an investor to continue owning a stock for potential appreciation while hedging the position if the stock falls. It works similarly to buying insurance, with an owner paying a premium for protection against a decline in the asset.
Here is how it works
Example: XYZ stock trades at $50 per share, and a put at a $50 strike is available for $5 with an expiration in six months. In total, the put costs $500: the $5 premium x 100 shares. The investor already owns 100 shares of XYZ.
|Stock price at expiration||Put’s profit||Stock’s profit||Total profit|
Potential upside/downside: The upside depends on whether the stock goes up or not. If the married put allowed the investor to continue owning a stock that rose, the maximum gain is potentially infinite, minus the premium of the long put. The put pays off if the stock falls, generally matching any declines and offsetting the loss on the stock minus the premium, capping downside at $500. The investor hedges losses and can continue holding the stock for potential appreciation after expiration.
Why use it: It’s a hedge. Investors use a married put if they’re looking for continued stock appreciation or are trying to protect gains they’ve already made while waiting for more.
— The Option Specialist