Fidelity exercise put option
Speculators who buy puts hope that the price of the put will rise as the price of the underlying falls. Since stock options in the U. However, speculators typically do not want to have a short position in the underlying shares, so puts that are purchased to speculate are usually sold before the expiration date. The maximum potential profit is equal to the strike price of the put minus the price of the put, because the price of the underlying can fall to zero.
Risk is limited to the premium paid plus commissions, and a loss of this amount is realized if the put is held to expiration and expires worthless. Buying a put to speculate requires a 2-part bearish forecast.
The forecast must predict 1 that the stock price will fall so the put increases in price and 2 that the stock price decline will occur before option expiration.
Buying a put to speculate on a predicted stock price decline involves limited risk and two decisions. The maximum risk is the cost of the put plus commissions, but the realized loss can be smaller if the put is sold prior to expiration.
The first decision is when to buy a put, because puts decline in price when the stock price remains constant or rises. The second decision is when to sell, because unrealized gains can disappear if the stock price reverses course and rises. Many investors who buy puts to speculate have a target price for the stock or for the put, and they sell the put when the target is reached or when, in their estimation, the target price will not be reached.
Put prices, generally, do not change dollar-for-dollar with changes in the price of the underlying stock. Rather, puts change in price based on their "delta. Volatility is a measure of how much a stock price fluctuates in percentage terms, and volatility is a factor in option prices. As volatility rises, option prices tend to rise if other factors such as stock price and time to expiration remain constant.
As a result, long put positions benefit from rising volatility and are hurt by decreasing volatility. This is known as time erosion. Long puts are hurt by passing time if other factors remain constant.
The owner of a put has control over when a put is exercised, so there is no risk of early assignment. If a put is exercised, then stock is sold at the strike price of the put. If there is no offsetting long or owned stock position, then a short stock position is created. Therefore, if a speculator wants to avoid having a short stock position when a put is in the money, the put must be sold prior to expiration. Put prices generally do not change dollar-for-dollar with changes in the price of the underlying stock.
In a protective put position, the negative delta of the long put reduces the sensitivity of the total position to changes in stock price, but the net delta is always positive. Volatility is a measure of how much a stock price fluctuates in percentage terms, and volatility is a factor in option prices. As volatility rises, option prices tend to rise if other factors such as stock price and time to expiration remain constant. A long put, therefore, benefits from rising volatility and is hurt by decreasing volatility.
As a result, the total value of a protective put position will increase when volatility rises and decrease when volatility falls. This is known as time erosion. Since long puts decrease in value and incur losses when time passes and other factors remain constant, the total value of a protective put position decreases as time passes and other factors remain constant.
Stock options in the United States can be exercised on any business day, and the holder long position of a stock option position controls when the option will be exercised. Since a protective put position involves a long, or owned, put, there is no risk of early assignment. If a put is exercised, then stock is sold at the strike price of the put. In the case of a protective put, exercise means that the owned stock is sold and replaced with cash.
Therefore, if an investor with a protective put position does not want to sell the stock when the put is in the money, the long put must be sold prior to expiration. There are important tax considerations in a protective put strategy, because the timing of protective put can affect the holding period of the stock. As a result, the tax rate on the profit or loss from the stock can be affected. Investors should seek professional tax advice when calculating taxes on options transactions.
If a stock is held for more than one year before it is sold, then long-term rates apply, regardless of whether the put was sold at a profit or loss or expired worthless.
If a stock is owned for less than one year when a protective put is purchased, then the holding period of the stock starts over for tax purposes. However, if a stock is owned for more than one year when a protective put is purchased, then the gain or loss on the stock is considered long-term regardless of whether the put is exercised, sold at a profit or loss or expires worthless.
Long put - speculative. In return for paying a premium, the buyer of a put gets the right not the obligation to sell the underlying instrument at the strike price at any time until the expiration date. A collar position is created by buying or owning stock and by simultaneously buying protective puts and selling covered calls on a share-for-share basis. Reprinted with permission from CBOE. The statements and opinions expressed in this article are those of the author.
Fidelity Investments cannot guarantee the accuracy or completeness of any statements or data. Options trading entails significant risk and is not appropriate for all investors. Certain complex options strategies carry additional risk.
Before trading options, please read Characteristics and Risks of Standardized Options. Supporting documentation for any claims, if applicable, will be furnished upon request. Charts, screenshots, company stock symbols and examples contained in this module are for illustrative purposes only.
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Related Strategies Long put - speculative In return for paying a premium, the buyer of a put gets the right not the obligation to sell the underlying instrument at the strike price at any time until the expiration date.
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