What it means
An option is a contract that gives its holder a right, but not an obligation, to trade at an agreed price. A put option gives the right to sell, and its price is called the premium.
When the put is bought on the same day as the shares and for the same quantity, the position is known as a married put. The strike price, which is the agreed selling price, sets the floor.
If the share price falls below the strike, the put gains value and offsets losses on the shares, so the investor's downside is capped at the gap between the purchase price and the strike plus the premium paid. The upside remains open.
If the shares rise, the investor keeps the gain, although the profit is reduced by the premium, which is lost if the put expires worthless. Investors use the strategy when they like a company over the long run but fear a short-term drop, for example ahead of an earnings announcement or a regulatory decision.
It lets them stay invested without risking an unlimited loss, and it can help a manager who must hold a stock for tax or strategic reasons. The cost is the main drawback.
Premiums reduce returns every time the put is bought, and options expire, so protection must be renewed if the worry continues. A put that is closer to the current share price costs more, while one far below costs less but protects less.
Married puts are often compared with stop-loss orders. A stop-loss can be skipped in a fast market, because the sale happens at whatever price is available, while a put guarantees the strike price until it expires, which is what the premium buys.
In practice
Real-world examples.
Example
A fund manager holds a retail company ahead of its quarterly results and buys a married put on a fresh purchase of 5,000 shares. If results disappoint, the put limits the loss to a known amount. If results are strong, the fund keeps the gain, less the premium it paid.
Example
An entrepreneur who has just exercised stock options in her employer buys shares and puts to protect a $120,000 position while waiting for the company's product launch.
Example
A retiree buys 200 shares of a utility company for $40 each and adds two put contracts struck at $38 for $1 per share. His worst-case loss is $3 per share, which is the $2 fall to the strike plus the $1 premium, or $600 across the 200 shares. That is a figure he can live with while his income comes from elsewhere.
Formula
Calculation
Break-even price = Share purchase price + Put premium per share
Maximum loss = (Share purchase price - Strike price + Put premium) x Number of shares
An investor buys 100 shares at $50 each, costing $5,000, and buys one put contract covering 100 shares with a strike of $48 for a premium of $2 per share, costing $200.
Break-even price = $50 + $2 = $52. Maximum loss = ($50 - $48 + $2) x 100 = $4 x 100 = $400, which happens whenever the share price ends at or below $48. If the shares rise to $60, profit = ($60 - $50 - $2) x 100 = $800.Case study
Seen in the real world.
Northgate Family Office is an illustrative, fictional investment office that wanted to add a drugmaker to its portfolio before a major regulatory decision. The analyst liked the company's pipeline but feared that a rejection could cut the share price by a quarter.
The team bought 2,000 shares at $80 for $160,000 and paid $4 per share, or $8,000, for puts struck at $72. The maximum loss was therefore ($80 - $72 + $4) x 2,000 = $24,000, about 15% of the amount invested, instead of a potential loss of $40,000 or more.
When the decision came, approval was granted and the shares rose to $95, so the puts expired worthless and the profit was ($95 - $80 - $4) x 2,000 = $22,000. In this illustrative story the office accepted the premium as the cost of sleeping soundly during the uncertain period. It noted in its investment log that the same trade would be repeated only when a defined event, and not general nervousness, created the risk.
Watch out
Common mistakes.
- Forgetting that the put premium reduces profit even when the shares rise.
- Buying a put for fewer or more shares than the position, leaving some shares unprotected or the hedge oversized.
- Letting the put expire without a plan when the worry about the shares still exists.
Questions
People also ask.
What is the difference between a married put and a protective put?
In a married put the shares and put are bought together, while a protective put is bought later against shares already owned, and the risk profile is the same.
How much does a married put cost?
The premium depends on the strike, the time to expiry and the volatility of the shares, and it is quoted per share and multiplied by the number of shares covered.
When does the strategy make sense?
It suits investors who want upside but cannot tolerate a large loss over a defined period, such as ahead of a known event.
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