March 31, 2011 3:30 am

Put Options Explained

 
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Call options and put options are the two fundamental types of options. Because put options are a basic operation of trading options, new investors should have put options explained before researching an options strategy. Reading articles about options and consulting an experienced investor are ways to have put options explained.

A put option deals with selling stock or the underlying asset. If someone buys a put option, that person is buying the right to sell stock at the strike price of the put option by the expiration date. The expiration date is known as the expiry. A buyer of an option has the right to act on it but is not obligated to do so.

When a put option is sold or written, the investor is selling the right to sell a stock at the strike price. If someone purchases the put option and exercises it, the writer must follow through with the terms of the put option.

Put options can be used in a variety of ways as part of options trading strategies. Put options may be used alone or in combination with call options or other puts.

A covered put is one that is written by an investor who is short the shares of stock. A naked put is a put that is written by an investor who is interested in buying the stock. The naked put can be a way to buy stock at a discount.

A naked put can be risky since the seller is obligated to buy the stock at the strike price if the buyer chooses to exercise the put. Even if the stock is selling for less at the time, the put seller must buy the stock at the strike price.

The strategy known as the married put is when the investor buys an at-the-money put option and the shares of the stock at the same time. An investor may do this if the investor wants to own the stock but is worried about possible upcoming changes in the stocks’ value.

If an investor owns stock and wants to protect the value of the portfolio from decreasing value of this stock, the investor may buy a protective put. A protective put is also known as a put hedge.

The investor may choose to exercise the put if the value of the stock decreases below the strike price. Therefore, the investor is using the put to limit the possible loss from the stock.

A bear put spread is a strategy investors may use when the investors feel the value of a certain stock will decline. The investor using the bear put spread strategy buys a put at a higher strike price and selling a put at a lower strike price for the same stock.

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