Protective put
Own the portfolio and buy a put option below today’s level. If the market falls past the strike, the put gains value and offsets further losses.
The payoff
The whole portfolio at the end of one year, for any market move. Dashed: no hedge. Green: with the hedge.
Hedged portfolioUnhedged
Modeled with Black-Scholes pricing at 18% implied volatility. Hypothetical and illustrative only. Simulator and chart results are modeled, not actual trades or client results, and are not a prediction or a recommendation.
- When does it start protecting?
- At the put’s strike. With a strike 10% below today’s level, losses beyond about −10% are offset. Add the premium paid to find your true floor.
- Where does it stop?
- It doesn’t. Below the strike, each further drop in the market is offset by the put until it expires.
- Is upside limited?
- No. You keep the market’s gains, less the premium.
- Is the cost known or unknown?
- Known and paid up front: the premium. Puts cost more when markets are nervous, because their price rises with implied volatility.
- Fits best when
- Protection matters more than cost, and giving up upside is not acceptable.
- Watch for
- Premiums add up in calm years when the put expires worthless. The closer the strike is to today’s level, the more it costs.