Strategies

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Buying Puts

 

ZYX is below break-even point of $47.00 at expiration

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If ZYX closes below the break-even point of $47.00 at expiration, at $43 per share for instance, the option will be in-the-money and worth its intrinsic value (difference between the strike price and stock price):

  $50.00  put strike price
 -$43.00  ZYX stock price
   $7.00   intrinsic value If you sell the ZYX 45 put for its intrinsic value of $7 then you would see a profit:

$7.00  intrinsic value received at put's sale
$3.00  premium initially paid for put
$4.00  profit

This profit of $4.00 ($400 total) represents a return on an initial investment of $3.00 premium paid for the put ($300 total) of approximately 133% over the 6-month life of the put contract.

The put could also be exercised, and 100 shares of ZYX sold at the contract's strike price of $50 per share less the $3.00 put premium paid, or a net price of $47. However, if those shares aren't owned the investor would then have a position of short 100 ZYX shares after exercise. In addition to unlimited upside stock risk, the result of this short stock position could be a potentially significant initial margin requirement (which can vary greatly among brokerage firms) as well as margin calls if ZYX increases in price. For this reason many investors choose to simply sell a put that is in-the-money at expiration.

 
 

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