Covered Put
The covered put strategy is just the opposite of the covered call strategy.
You sell short the stock to cover the put that is written.
P/L Profile
The covered put strategy is a neutral to bearish strategy because the investor
is expecting the stock to go down or stay constant. When the stock drops, the
investor will have the stock put to them at the short put strike price. This
covers the obligation of the shares of stock that were shorted. The investor
keeps the initial premium received from selling the put. If the stock rises
the investor keeps the premium, but they are still holding the short stock
obligation and could sustain a loss to close the short. If the short put does
expire, the investor could look to sell another put at a different strike for
the next expiration month.
Example: Short Stock XYZ @ $24.67
Write (Sell) the OCT 25 (ATM) Put at $1.90
Break Even = Short Stock Price + Option Bid = $26.57
Maximum Profit = [(Short Stock Price - Strike Price) + Option Bid = $1.57
% Downside Protection = Option Bid ÷ Short Stock Price = 7.7%
% if Assigned = Max Profit ÷ (Short Stock Price - Net Credit) = 6.9% (If stock below $25 at exp.)
Cautions with this strategy:
The Maximum Risk is infinite, as the stock can rise infinitely.
Most conservative investors shy away from shorting stock.
If good news comes out, the stock could rise suddenly, faster than
the investor can roll the put.
Most investors looking to collect premium trading puts will simply
sell a Naked Put or trade a Bull Put Credit Spread.
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