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This Options Strategy Bakes in Risk Protection

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Investor analyzes a stock price chartA married put is an options trading strategy in which investors hold both a put contract for a stock and shares of the stock itself. By marrying the two together, the investor builds in some downside protection. Sometimes referred to as protective puts, married puts are typically used as a bullish hedge. If you’re interested in options trading, it helps to understand how a married put works, when it’s used and what purpose it’s designed to serve. Derivatives trading can be complex and risky, so it makes sense to work with a financial advisor as you get started with it.

Options Trading Basics

An option is a contract that gives its holder the right to buy or sell shares of a particular stock or security. There are two main types of options: Calls and puts.

A call option conveys the right to buy an underlying security at a specific strike price by a set date. Strike price just means the price at which an option can be exercised. When you purchase an option, call or put, you pay a premium to do so.

A put option gives an investor the right to sell an underlying security at a specific strike price by a set date. When you’re investing in call and put options, you’re essentially making a guess about which way a stock or security’s price will move. Whether an option is in-the-money, out-of-the-money or at-the-money can determine whether you’re able to profit by exercising it.

In-the-money options have intrinsic value; out-of-the-money options do not. An at-the-money option has a market price that’s equivalent to the option contract’s strike price. In-the-money and out-of-the-money mean different things when you’re talking about call and put options.

Here’s how it works:

  • A call option is in-the-money if the strike price is below the actual price of the security.
  • A call option is out-of-the-money if the strike price is above the actual price of the security.
  • A put option is in-the-money if the strike price is above the actual price of the security.
  • A put option is out-of-the-money if the strike price is below the actual price of the security.

Understanding these differences is helpful when learning how married puts work.

What Is a Married Put?

A married put is an options trading strategy that involves holding a put option for a security while also holding shares of the security itself. Owning a put and the stock simultaneously affords an investor some downside protection against price changes.

Married puts act as a form of insurance for investors. If you’re interested in a stock but you’re concerned about volatility in the short term, holding both the stock and a put option for the stock can give you an advantage.

Since the profit potential for a married put is similar to a long call, it’s sometimes referred to as a synthetic long call. Married puts are similar to covered calls, though with that strategy you’re holding shares of stock alongside a call option.

Married Put Example

An "options" key on a PC keyboard

Having an example to follow can make it easier to understand married puts in action. So, say you’re interested in purchasing a stock that’s trading at $50 per share. You buy 100 shares of the stock along with a $45 put option at a $2 premium. Now, say the stock’s price dips to $42 per share. You’re unsure whether it will climb back to its previous $50 price point so you choose to exercise the option. Your loss is limited to $5 per share, along with the $2 premium.

That’s where the downside protection of married puts comes in. Now, say that the same stock’s price rises to $80. In that scenario, you’d allow the put option to expire worthless since you’d gain nothing by exercising it. At this point, you could sell the shares you initially purchased for $50 at a $30 gain, less the $2 premium you paid for the put option.

What’s most attractive about married puts is that they cap your potential for losses but your potential for gains remains unlimited. Again, you could be out the money you paid toward the premium if you allow a put option to expire worthless. But that may be immaterial if you’re realizing a significant gain because the stock’s price has increased.

When Using Married Puts Makes Sense

Options traders may use a married put strategy when they’re feeling bullish about a stock’s trajectory but want to hedge against any unforeseen risks. By owning the stock itself, you get the accompanying benefits of being a shareholder. That includes being on the receiving end of dividend payouts if the stock offers them and having voting rights.

Meanwhile, you can use the put option for the stock to protect your investment. Holding put options equivalent to the number of shares limits the amount of money you could potentially lose if the stock’s price moves down, rather than up. No matter how much the stock’s price drops, you still have the right to exercise the put option at the higher strike price.

A married put strategy isn’t risk-free, however, as you’re still risking the loss of the premium paid to purchase the option. There are also commissions to factor in when trading options. Online brokerages that offer options trading don’t always follow the same pricing model. So it could be more expensive to trade options and stocks with one brokerage versus another, depending on how much volume you’re doing.

How to Use a Married Put Strategy

If you’re considering married puts as part of your options trading strategy, it helps to do some calculations first to estimate profit and loss potential.

On the profit side, maximum profit is technically unlimited as it only depends on how high the stock’s price climbs. But it’s important to factor in the cost of the premium paid when calculating profit. A simple formula you could use looks like this:

Profit = Security’s Market Price – (Security’s Purchase Price + Premium)

Next, consider the maximum loss you might incur. This is simply the total of the premium paid along with any commissions paid if you allow the put option to expire worthless because the underlying security’s price has increased.

Maximum Loss = Premium + Commissions

Finally, consider the breakeven point. This is the point at which the underlying security’s price increases enough to offset anything you paid toward the premium.

Breakeven = Purchase Price + Option Premium

Doing these calculations can help you estimate how much money you could make (or lose) from taking a married put position. Beyond that, it’s important to evaluate the underlying security itself to decide if a married put makes sense. Reviewing stock charts can help you get a feel for which way pricing trends are moving and may move in the near term.

Bottom Line

Abstract graphic with stock price chart and picture of Benjamin Franklin's face

Married puts are just one technique you might employ as part of an options trading strategy. Understanding how they work and what benefits they can yield is helpful if you’re new to options trading. Be aware that a successful options trade results in short-term capital gains tax, not the lower long-term capital gains tax. It’s also important to choose the right brokerage for options trading, as that can influence the cost you pay to trade. Taking time to compare the best online brokerage accounts for options traders can help you find the best fit for your needs.

Tips for Investing

  • One thing to note when trading options is whether you’re trading American-style or European-style contracts. With American-style options, you can exercise the option at any time up to the expiration date. European-style options, on the other hand, can only be exercised on the expiration date. That’s a crucial difference to be aware of as it could affect your overall married put strategy.
  • Consider talking to a financial advisor about options trading and what it means to use married puts. Finding a qualified financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three financial advisors in your area, and you can interview your advisor matches at no cost to decide which one is right for you. If you’re ready to find an advisor, get started now.

Photo credit: ©iStock.com/Avalon_Studio, ©iStock.com/PashaIgnatov, ©iStock.com/TK

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