What is a Put Option?

If you’re thinking about getting involved with options, you must have heard about their distinct advantage. For one, they allow investors a great source of protection. A put option can be used to hedge against possible downward turns in asset prices.

Additionally, options can be a method of speculation. Traders can predict the future values of stocks and invest options to profit from accurate forecasts. Ultimately, options provide traders with plenty of opportunity. But do you know how they work?

There are two kinds of options, and both provide buyers unique advantages. They essentially offer buyers the opportunity to make, lose, or protect money if they have a good feeling of what lays in store for certain stocks.

These two different types are “puts” and “calls.” They are kind of minor inverses of each other. In this article, we will explore how a “put option” works.

Put options allow a buyer and seller (the option writer) to enact a contract regarding the control of a particular underlying asset. The underlying asset, generally just a collection of stock, is the foundation for the put option.

In a put, the buyer purchases the privilege, but not the obligation, to sell the underlying asset at a particular price. This price is called the strike price and both parties agree on it at the time of exchange. The strike price of an option does not change; even if its market value does. This means that a buyer can sell an asset for more than its current market price if the option’s strike price allows.

To illustrate this concept, the following example is provided: say you buy a put option granting you the right to sell stock XYZ for $40/share. If the market value of XYZ drops to $30/share, you can buy it and then sell it for the original, higher price.  Or you could just sell the put because it would be worth more than you paid for it.

For one, you must “exercise the option” (sell the asset) or sell the put before the “expiration date.” Like the strike price, the expiration date is agreed upon and noted at the time of exchange. Also, in order to purchase any kind of option, you must pay a fee known as a “premium.”

You can choose to let a put optionexpire, sell it, or exercise it before the expiration date. This decision will be based on the market value relative to the strike price and premium. You’ve got to figure out how to profit and act accordingly, but once you do, options can be a viable means of generating income.

Related Pages

Option Strategies

Covered Call

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