Protective put
Hold stock and buy a put as insurance. Caps downside at the put strike; gives up some upside to pay the premium.
How a protective put works
A protective put is 100 shares you own plus a put bought against them. The put sets a floor: below its strike, every dollar the stock loses is offset by a dollar the put gains. You keep all the upside above your cost, minus the premium paid.
It is insurance, and it behaves like insurance. You pay a premium for a defined term, you hope not to need it, and it expires. Buying protection repeatedly is a real drag on returns — the honest way to frame it is as the cost of holding a position through a period you could not otherwise sit through.
The strike is the deductible. A put close to the current price costs more and protects sooner; one further out costs less and lets the stock fall further before protection begins. Your true maximum loss is the distance from your basis down to the strike, plus the premium.
A worked example
You own 100 shares of XYZ bought at $100. The stock trades at $100 and you want protection through an uncertain quarter, so you buy one $95 put expiring in 60 days for $2.00 per share.
The $70 row is the point of the trade: a 30% decline costs $700 instead of $3,000. The $115 row is the cost: the premium is gone whether or not you needed it.
When a protective put fits — and when it doesn't
- You hold a large unrealised gain you do not want to sell, often for tax reasons.
- A specific event you cannot sit through falls inside a known window.
- The position is large enough relative to the account that a normal drawdown would force a bad decision.
- As a standing policy. Continuous protection is a continuous cost and will materially reduce long-run returns.
- Implied volatility is already elevated — you are buying insurance after the fire alarm.
- The position is small enough that you could simply hold through the drawdown, or sell.
Common questions
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