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This graph indicates profit and loss at expiration, respective to the stock value when you bought the put. Purchasing a protective put gives you the right to sell stock you already own at strike price A. Protective puts are handy when your outlook is bullish but you want to protect the value of stocks in your portfolio in the event of a downturn. They can also help you cut back on your antacid intake in times of market uncertainty.
Protective puts are often used as an alternative to stop orders. Or, if a major news event happens overnight and the stock gaps down significantly on the open, you might not get out at your stop price.
However, these benefits do come at a cost. So it would be nice if the stock goes up at least enough to cover the premium paid for the put. From the point the protective put is established, the break-even point is the current stock price plus the premium paid for the put. For this strategy, time decay is the enemy. It will negatively affect the value of the option you bought.
After the strategy is established, you want implied volatility to increase. That will increase the price of the option you bought. Options involve risk and are not suitable for all investors. For more information, please review the Characteristics and Risks of Standardized Options brochure before you begin trading options. Options investors may lose the entire amount of their investment in a relatively short period of time. Multiple leg options strategies involve additional risks , and may result in complex tax treatments.
Please consult a tax professional prior to implementing these strategies. Implied volatility represents the consensus of the marketplace as to the future level of stock price volatility or the probability of reaching a specific price point. The Greeks represent the consensus of the marketplace as to how the option will react to changes in certain variables associated with the pricing of an option contract. There is no guarantee that the forecasts of implied volatility or the Greeks will be correct.
Ally Invest provides self-directed investors with discount brokerage services, and does not make recommendations or offer investment, financial, legal or tax advice. System response and access times may vary due to market conditions, system performance, and other factors.
Content, research, tools, and stock or option symbols are for educational and illustrative purposes only and do not imply a recommendation or solicitation to buy or sell a particular security or to engage in any particular investment strategy. The projections or other information regarding the likelihood of various investment outcomes are hypothetical in nature, are not guaranteed for accuracy or completeness, do not reflect actual investment results and are not guarantees of future results.
All investments involve risk, losses may exceed the principal invested, and the past performance of a security, industry, sector, market, or financial product does not guarantee future results or returns. The Options Playbook Featuring 40 options strategies for bulls, bears, rookies, all-stars and everyone in between. The Strategy Purchasing a protective put gives you the right to sell stock you already own at strike price A.
Break-even at Expiration From the point the protective put is established, the break-even point is the current stock price plus the premium paid for the put. The Sweet Spot You want the stock to go to infinity and the puts to expire worthless. Ally Invest Margin Requirement After the trade is paid for, no additional margin is required. As Time Goes By For this strategy, time decay is the enemy.
Implied Volatility After the strategy is established, you want implied volatility to increase.