Put Options: What They Are and How to Buy Them

A put option gives the buyer the right, but not the obligation, to sell an underlying asset at a specified strike price within a set period. Investors can use puts to hedge against a decline in an investment they own or to speculate that an asset’s price will fall. For a buyer of a standard put, the maximum loss is generally limited to the premium paid for the option, plus applicable fees.

A financial advisor could answer your questions about put options and other investment strategies.

What Is a Put Option?

Buying a put option gives you the right to sell an underlying asset at a certain price, known as the strike price, by the contract’s expiration date. You can generally exercise American-style options before expiration, while European-style options make you wait until expiration. The seller, or writer, of a put has an obligation to buy the underlying asset at the strike price for any exercised contract with an assigned writer.

Buying put options is a way to hedge against a potential drop in an investment’s price. Investors can also buy puts without owning the underlying asset when they expect its price to decline.

Options are derivatives, meaning their value is tied to an underlying asset. The price of a put can change based on the underlying asset’s price, time remaining until expiration, implied volatility and other factors. A long put can lose its entire premium if it expires worthless, but the buyer generally cannot lose more than the premium paid, plus fees. Risks can be different for investors who write options or use more complex strategies.

What Is an Example of How to Use a Put Option?

One of the main uses for a put option is to hedge against a possible drop in your investment portfolio’s value. For instance, let’s say you own 100 shares of a stock valued at $100 per share. You become concerned that the stock could fall to $90 over the next three months.

You could buy a put giving you the right to sell the 100 shares at a $100 strike price during that period, assuming the contract is American-style. Experts call this strategy a protective put because you own the stock and buy a put to protect it.

Option prices vary, but say this put costs $2 per share, or $200 for a standard contract covering 100 shares. If the stock is below $100 at expiration, the put protects the position by giving you the right to sell the shares for $100 each. If you bought the shares for $100, your maximum loss on the combined position at expiration would be the $200 premium, excluding fees.

You would not necessarily have to exercise the put. Depending on its market value, you could sell the option before expiration instead. Selling a put that still has time value can be preferable to exercising it early and giving up that remaining value.

If the stock remains above the $100 strike price through expiration, the put could expire worthless. You would lose the $200 premium on the option, while keeping any gain or loss on the stock itself.

How Put Option Gains and Losses Work

For a long put, your maximum loss amounts to the premium paid, plus any fees. At expiration, you break even when the stock price equals the strike price minus the premium. A drop below that level creates a profit.

Using a $100 strike price and a $2 premium:

In this example, the investor breaks even at $98 per share. If the stock drops to $90, the right to sell at $100 is worth $10 per share, or $1,000 for the contract. After deducting the $200 premium, the profit is $800 before fees.

The highest possible profit is $9,800 before fees. This would occur if the stock fell to zero, making the right to sell 100 shares at $100 worth $10,000 before accounting for the premium.

How to Buy Put Options

To buy put options, you need a brokerage account approved for options trading. Brokerage firms review factors such as your investment experience, financial information and objectives before approving an account for particular options strategies. Approval standards and trading levels vary by firm.

To buy a put option, consider these four steps:

1. Choose the strike price: The strike determines the price you can sell the underlying asset according to the contract. Your choice can depend on the amount of protection or downside exposure you want and the premium you are willing to pay.
2. Choose an expiration date: More time until expiration generally increases an option’s premium because there is more time for the underlying asset to move. Longer-dated puts are not automatically less risky because they generally require a larger upfront investment.
3. Decide how many contracts to buy: Each standard equity option contract generally represents 100 shares. For each contract, you pay the quoted premium multiplied by 100, plus applicable fees.
4. Decide how to exit the position: A put buyer can generally sell the contract before expiration, exercise it when permitted or allow it to expire. A put is in the money when the underlying asset’s market price is below the strike price. Exercising is not always the most economic choice because selling the option can preserve remaining time value.

If the underlying asset does not decline enough, the put can expire worthless. For a long put position, the maximum loss is generally the premium paid, plus transaction costs.

Buying Uncovered Put Options

You do not have to own shares of a stock to buy a put on it. A long put occurs when you buy a put without owning the underlying shares, rather than an uncovered put. The term “uncovered” or “naked” is more commonly associated with options that an investor writes without holding an offsetting position.

Investors who buy puts for speculation often sell the contract before expiration rather than exercise it. Exercising a physically settled put without owning the shares can create a short stock position, depending on the broker and account permissions. Index options can work differently because many settle in cash rather than through delivery of shares.

If the stock in the earlier example falls to $90, the $100 put has $10 per share of intrinsic value. For 100 shares, that equals $1,000. After subtracting the $200 premium, the investor would have an $800 profit before fees if the option sells or otherwise closes at that intrinsic value at expiration.

Buying a long put can provide leverage because the premium is small relative to the value of the shares represented by the contract. In this example, a $200 premium provides exposure to 100 shares priced at $100 each.

The $200 premium is also the maximum loss for the put buyer. Maximum profit is $9,800 before fees if the stock falls to zero, since the $100 strike put would then have $10,000 of intrinsic value.

Call Option vs. Put Option: What’s the Difference?

Put options provide the right to sell an underlying asset at a specific price. Call options give the buyer the right to purchase an asset at a predetermined strike price and time frame. Investors generally use calls when they expect prices to rise, and use puts to hedge against declines or speculation.

For example, an investor who expects a stock to increase in value might purchase a call option to gain exposure to a potential price increase without buying the shares outright. An investor concerned about a stock’s price dropping might buy a put to protect an existing position or seek a profit from the decline.

Both options involve premiums, which represent the cost of the contract to the buyer. If the anticipated price movement doesn’t occur before expiration, the buyer can lose some or all of the premium paid.

Bottom Line

Put options can be used to hedge an investment or speculate on a decline in an underlying asset. A buyer’s maximum loss on a long put is generally limited to the premium paid, but options can still lose their entire value before expiration. Strike price, expiration, time decay and volatility can all affect the outcome. If you aren’t sure what trading level you’d meet or how much risk you’re willing to take on, it may be time to talk to a financial professional. They can help you figure out those details and compare put options with other ways to manage portfolio risk.

Investing Tips

• Do put options belong in your portfolio? A financial advisor can help you figure that out. Finding a qualified financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
• Options trading can result in significant gains or losses, so managing risk is crucial. Invest only what you can afford to lose, diversify your portfolio and set clear limits on your trades. Consider using stop-loss orders or setting maximum loss thresholds to protect against unexpected market movements. Additionally, avoid overleveraging, as it can amplify losses as much as potential gains.

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