Call and Put Options: Meaning, Types & Examples

If the strike price of a put option is $20, and the underlying is stock is currently trading at $19, there is $1 of intrinsic value in the option. The extra $0.35 is time value, since the underlying stock price could change before the option expires. Different put options on the same underlying asset may be combined to form put spreads.

As Tesla’s (TSLA) stock shed more than half its value from 2023 to 2024, many who held the stock wished that they had waited for better prices. In contrast, those who sold put options on the stock during the decline not only earned income through premiums but also positioned themselves to buy Tesla shares at significantly discounted prices. When anticipating a market decline or increased volatility, purchasing a put option may be advantageous. Conversely, selling a call option can be considered if a limited price appreciation or reduced volatility is expected. The decision between put and call options depends on individual investment goals and risk tolerance. A thorough understanding of these derivatives is crucial for successful navigation of the market’s complexities, whether for speculative or hedging purposes.

Is It Advisable to Write Puts in Volatile Markets?

As shown in the above chart, if the stock moves down 40%, a short-seller earns $200. Well, these questions and therefore, the answers to these form the crux of option trading. If you can master these aspects of an option, let me assure you that you would set yourself on a  professional path to trade options. The position is called ‘Short Option’ only if you are creating a fresh sell (writing an option) position. If you are selling with and intention of closing an existing long position, then it is merely called a ‘square off’ position. Bankrate.com is an independent, advertising-supported publisher and comparison service.

4 – P&L behaviour of the Put Option buyer

A put option gives its buyer the right to sell its underlying stock at a predetermined strike price on the expiration date. In contrast, put sellers must sell the underlying stock when the put buyer exercises his/her option. An investor purchases one put option contract on ABC company for $100.

Advantages of buying put options

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These contracts are hazardous because they can expose you to unlimited losses. If gold loses $1 an ounce the day after you bought your contract, you’ve just lost $100. Since the put meaning in share market contract expires in the future, you could lose hundreds or thousands of dollars by the time the contract comes due.

1. The put option buyer is betting on the fact that the stock price will go down (by the time expiry approaches).
2. If the market price decreases, you have the obligation to buy back the option from the seller at the strike price.
3. However, success requires more than just chasing the highest premium—you must be financially and mentally prepared to take ownership of shares if they fall below your strike price.
4. You sell your shares of XYZ to the option writer for $3,500, even though they’re now worth only $3,000.

Selling vs. Exercising an Option

1. Let us suppose that the price of ABC Limited stocks stands at Rs. 1000 per share.
2. So the option value flatlines, capping the investor’s maximum loss at the price paid for the put, of $5 premium per share or $500 in total.
3. This is because the option may expire at no value, and this allows them to keep the whole premium.
4. By now, I’m certain you would have a basic understanding of the call and put option both from the buyer’s and seller’s perspective.
5. Selling a put seems like a low-risk proposition — and it often is — but if the stock really plummets, then you’ll be on the hook to buy it at the much higher strike price.

If you are buying with and intention of closing an existing short position, then it is merely called a ‘square off’ position. Likewise, whenever you sell an option, it is called a ‘Short’ position. Going by that, selling a call option and selling a put option is also called Short Call and Short Put position respectively. It would help if you remembered that when you buy an option, it is also called a ‘Long’ position.

Options

The put owner may exercise the option, selling the stock at the strike price. Or the owner can sell the put option to another buyer prior to expiration at fair market value. Put options are most commonly used in the stock market to protect against a fall in the price of a stock below a specified price. In this way the buyer of the put will receive at least the strike price specified, even if the asset is currently worthless.

For a limited investment, the buyer secures unlimited profit potential with a known and strictly limited potential loss. The put ‘writer’ believes that the underlying security’s price will rise, not fall. The put writer’s total potential loss is limited to the put’s strike price less the spot and premium already received. Puts can be used also to limit the writer’s portfolio risk and may be part of an options spread. Buying puts and short selling are both bearish strategies, but there are some important differences between the two. A put buyer’s maximum loss is limited to the premium paid for the put, while buying puts does not require a margin account and can be done with limited amounts of capital.

For this reason, many brokerages, like Vanguard, don’t allow you to write uncovered calls. Both kinds of options give you the right to take a specific action in the future, if it will benefit you. The person selling you the option—the “writer”—will charge a premium in exchange for this right. Put options, as well as many other types of options, are traded through brokerages.