In this article, you will learn what does buying a put option mean. A put option is a contract giving the option buyer the right, but not the obligation, to sell—or sell short—a specified amount of an underlying security at a predetermined price within a specified time frame.
What does Buying a Put Option Mean?
When you're buying a put, it means you are looking for the stock to go down. Basically bearish and means you have a slight bearish position.
The put option buyer is betting on the fact that the stock price will go down (by the time expiry approaches). Hence in order to profit from this view, he enters into a Put Option agreement. In a put option agreement, the buyer of The put option can buy the right to sell a stock at a price (strike price) irrespective of where the underlying/stock is trading at.
Whatever the buyer of the option anticipates, the seller anticipates the exact opposite, therefore a market exists. After all, if everyone expects the same a market can never exist. So if the Put option buyer expects the market to go down by expiry, then The put option seller would expect the market (or the stock) to go up or stay flat.
A put option buyer buys the right to sell the underlying to the put option writer at a predetermined rate.
Strategies of Buying a Put Options
The general motivation behind a put options strategy is to capitalize on being bearish on a particular stock. However, there are plenty of different strategies that can reduce risk or maximize bearishness.
-Long Put
This is one of the most basic put option strategies.
When buying a long put option, the investor is bearish on the stock or underlying security and thinks the price of the shares will go down within a certain period of time. For example, if you are bearish on Apple (AAPL)stock, you could buy a put option on Apple stock with a strike price of $150 per share. You probably think its market value will decrease to around $145 in six months.
-Short Put (Naked Put)
The short put is a strategy that expects the price of the underlying stock to actually rise or remain at the strike price. Hence, it is more bullish than a long put.
The short put works by selling a put option – especially one that is more “out of the money” if you are conservative on the stock. The risk of this strategy is that your losses can be potentially limitless. Since you are selling the put option , if the stock declines to near zero, you are obligated to buy worthless stock. Whenever you are selling options, you are the one with the duty to buy or sell the option. As a result, selling put options on individual stocks is generally riskier than indexes, ETFs, or commodities.
-Bear Put Spread
A bear put spread is often used when the investor is only moderately bearish on a stock.
To initiate a bear put spread, the investor will short (or sell) an “out of the money” put while simultaneously buying an “in the money” put option at a higher price. They both will have the same expiry date and number of shares. Unlike the short put, the loss for this strategy is limited to what you paid for the spread. This is because the worst that can happen is that the stock closes above the strike price of the long put. This will result in both contracts becoming worthless. Still, the max profits you can make also has limits.
- Protective Put
This is a protective put strategy allowing an investor to basically protect a long position on a regular stock.
The protective put is the best example options can be a sort of insurance for a regular stock position. For protective put, buy a put option for every 100 shares of your regular stock at a certain strike price.
Bottom Line
Many people think options are highly risky, and they can be if they're put to use properly. However, investors can use options in a way that limits their risk while allowing for profit on the rise or fall of a stock. This article is about what does buying a put option mean.
