Investing in Covered Call and Protective Put Options
Investing in stock market options can be a good way to increase the returns of your portfolio, but they come with a lot of risk if you don’t know what you’re doing. Many investors use stock options to get extra cash off their long term stock positions, or to hedge against the price of their shares dropping below a certain level. Here are two common stock option strategies.
The Covered Call
The covered call is a strategy that individuals use to get some cash for their long term stock positions. The idea is that you sell a call on your shares of stock that is out of the money. This means that the option won’t exercise based on the current stock price.
By selling the call, you get the cash from the premium on the option. If at expiration day, your option is still out of the money, nothing happens, but you keep the cash. However, the risk is that the stock price could have risen, and you are forced to sell your shares.
Use this strategy cautiously, but it can be a good way to make some additional money.
The Protective Put
A protective put is like an insurance policy against the underlying stock that can save you money if the share price falls. The idea is that you spend money on the put (like insurance), but it reduces your risk of losing money if the share price falls.
This is most commonly used in situations where a stock has gone up in value, but you don’t want to sell yet. Say you have $10 in gains, and want to lock them in without selling. You could buy a put for the current share price. If the stock continues to go up, you lose the money you spent on the put, but you realize the gains of the stock price increase.
However, if the stock price goes down, you offset the loss in share price with the gain in option price. This is why investors consider using the protective put. For the price, it can be a good investment.
How do you invest in stock options and what strategies do you use? Please share your ideas and experiences as a comment below.