Protective Put / Married Put– an investor buys shares of a stock and, at the same time, enough put options to cover those shares. The use of this strategy as a hedge on the invested stock. The buyer of a put protects himself from a drop in the stock price below the strike price of the put. In the event that the put is not exercised, the buyer has lost only the premium he paid for the put. A put by itself has a limited upside, which occurs when the stock becomes worthless. By “marrying” puts with shares of the stock, the portfolio has potential for unlimited upside if the stock goes up a lot while limiting the downside to the cost of the puts.
An investor purchases 100 shares of XYZ at $25 a share. The investor than goes and buys one $22 put contract, which controls 100 shares for, $1.50 per share. The total commission paid is $.50 per share.
The investor will only profit if the stock moves more than the cost of the put options plus commission. In our case that is $2 a share. Thus the investor will only make a profit if the stock price of XYZ goes above $27 a share. If the stock price falls below $22 a share the investor has limited his downside as he can sell the stock at $22 a share and has lost only $3 plus commission.
