Put option

What a put option means

A put option is a contract that gives the buyer the right, but not the obligation, to sell an underlying asset at a fixed price, called the strike price, on or before a set expiry date. The seller, or writer, of the put takes on the obligation to buy the asset at that strike price if the buyer chooses to exercise.

The underlying can be a share, an index, an ETF, a currency, a commodity or a futures contract. The buyer pays an upfront price called the premium for this right.

Puts tend to gain value when the underlying price falls, which is why they are used for hedging and for taking a bearish view with limited, known risk. They are the mirror image of call options.

How it works

Every put has a few key features:

• Strike price: the price at which the holder may sell.
• Expiry date: the last day the right can be used.
• Premium: the cost paid by the buyer.
• Style: American puts can be exercised any time before expiry, European puts only at expiry.
• Contract size: for example 100 shares per equity option contract in many markets.

A put is in the money when the underlying price is below the strike, at the money when they are about equal, and out of the money when the price is above the strike. The intrinsic value is the strike minus the market price, or zero if negative.

At expiry, one of three outcomes follows for a long put. If the underlying is below the strike, the holder can exercise, or sell the put, and capture the difference. If the price is above the strike, the put expires worthless. If the contract is cash-settled, as is common with indices, the difference is paid in cash instead of delivering the asset.

Before expiry, most retail traders close positions by selling the put in the market rather than exercising, because the premium may still include time value.

The payoff for a long put at expiry is: maximum of (strike - underlying price, 0), minus the premium. The maximum loss is the premium. The maximum gain is reached if the underlying falls to zero, so it is large but limited.

A worked example

The numbers are illustrative. A share trades at 100 dollars. An investor buys one put with a strike of 95 dollars, expiring in three months, for a premium of 2.50 dollars per share. The contract covers 100 shares.

1. Cost = 2.50 × 100 = 250 dollars. This is the maximum loss.
2. Breakeven at expiry = 95 - 2.50 = 92.50 dollars.
3. Scenario A: the share falls to 85 dollars. The put is worth 95 - 85 = 10 per share, or 1,000 dollars. Profit = 1,000 - 250 = 750 dollars.
4. Scenario B: the share finishes at 98 dollars. The put expires worthless and the loss is 250 dollars.
5. Scenario C: the share finishes at 93 dollars. The put is worth 2 per share, or 200 dollars. Loss = 250 - 200 = 50 dollars.

If the investor already owns the shares, this put acts like insurance: below 95 the shares lose value but the put gains, limiting the downside for the cost of the premium.

Why it matters

Puts give investors a way to protect a portfolio without selling holdings, and a way to express a negative view with a capped loss when buying. They are central to hedging strategies such as protective puts and collars.

The price of puts also carries information. When fear rises, demand for protection pushes implied volatility and put premiums up. Comparing them with call premiums gives a rough sense of market sentiment, although it is not a forecast.

For sellers, writing puts generates premium income but creates an obligation to buy if the price falls. This can lead to large losses in a sharp decline, so brokers require margin and often approval levels.

How to use it in practice

• Decide the purpose first: hedging an existing holding or expressing a view.
• Choose strike and expiry to match your timeframe, remembering that nearer expiry means faster time decay.
• Compute breakeven and maximum loss before placing the order.
• Check the bid-ask spread and volume to ensure the option is reasonably liquid.
• Review commissions, exchange fees and exercise or assignment fees at your broker.
• If writing puts, make sure you understand margin requirements and are prepared to buy the underlying.

Common mistakes and misconceptions

• Thinking puts are only for betting on a fall. They are widely used as insurance.
• Forgetting time decay, which erodes value even if the view is right but slow.
• Buying far out-of-the-money puts that need a huge move to pay off.
• Treating a short put as easy income without sizing for a crash.
• Mixing up a put with short selling the stock. A bought put has limited risk, short selling does not.
• Ignoring assignment risk on American-style contracts.

Risks and limitations

A bought put can lose its entire premium. A sold put can lose a very large amount if the underlying drops sharply. Options are complex products, and not every broker offers them to retail clients or in every country. Liquidity can be poor for some strikes and expiries. This is educational content and does not constitute advice.

How Brokeli looks at it

For brokers that offer options, we look at per-contract commissions, exchange fees, the quality of the option chain and risk tools, margin rules for sellers and the approval process. These facts are stored in the published research snapshot so that cost comparisons are consistent. We do not suggest any strategy or product.