What is a put option?
A put option is a contract that gives the buyer the right, but not the obligation, to sell 100 shares of a stock at a set strike price on or before a set expiration date. The buyer pays a premium up front for that right.
Traders buy puts for two main reasons: to speculate on a stock going down, or to hedge a position they already own. If a stock crashes, a put gains value. One put controls 100 shares, so a $1 drop in the stock can mean $100 in the option's value.
A quick example
Tesla is trading at $250. You buy one TSLA $240 put expiring in 30 days for $4 per share. Your cost is $4 x 100 = $400.
- If Tesla drops to $220, your put is worth at least $20 x 100 = $2,000.
- If Tesla stays above $240 through expiration, the put expires worthless and you lose the $400 premium.
- Your break-even is $240 - $4 = $236. Tesla needs to close below that for you to actually make money.
Puts as insurance
Long-term investors sometimes buy puts on stocks they already own as protection against a crash. A put gains value when the stock drops, offsetting losses on the shares. This is called a protective put. It costs the premium each period but caps the downside on a concentrated position.