Protective Put Strategy is a hedging strategy where trader guards himself from the downside risk. This strategy is adopted when a trader is long on the underlying asset but skeptical of the downside. He will buy one ATM Put Option to hedge his position. Now, if the underlying asset moves either up or down, the trader is in a safe position.
As the name suggests, a ratio of 2:1 is followed i.e. buy 1 ITM Call and simultaneously sell OTM Calls double the number of ITM Calls (In this case 2). This strategy is used by trader who is neutral on the market and bearish on the volatility in the near future. Here profits will be capped up to the premium amount and risk will be potentially unlimited since he is ..
Upper Breakeven Point = Strike Price of Short Calls + (Points of Maximum Profit / Number of Uncovered Calls), Lower Breakeven Point = Strike Price of Long Call +/- Net Premium Paid or Received
PROTECTIVE PUT Vs RATIO CALL SPREAD - When & How to use ?
PROTECTIVE PUT
RATIO CALL SPREAD
Market View
Bullish
Neutral
When to use?
This strategy is adopted when a trader is long on the underlying asset but skeptical of the downside.
This strategy is used by trader who is neutral on the market and bearish on the volatility in the near future. Here profits will be capped up to the premium amount and risk will be potentially unlimited since he is selling two calls.
Action
Buy 1 ATM Put
Buy 1 ITM Call, Sell 2 OTM Calls
Breakeven Point
Purchase Price of Underlying + Premium Paid
Upper Breakeven Point = Strike Price of Short Calls + (Points of Maximum Profit / Number of Uncovered Calls), Lower Breakeven Point = Strike Price of Long Call +/- Net Premium Paid or Received
PROTECTIVE PUT Vs RATIO CALL SPREAD - Risk & Reward
PROTECTIVE PUT
RATIO CALL SPREAD
Maximum Profit Scenario
Price of Underlying - Purchase Price of Underlying - Premium Paid
Strike Price of Short Call - Strike Price of Long Call + Net Premium Received - Commissions Paid
Maximum Loss Scenario
Premium Paid + Purchase Price of Underlying - Put Strike + Commissions Paid
Price of Underlying - Strike Price of Short Calls - Max Profit + Commissions Paid
Risk
Limited
Unlimited
Reward
Unlimited
Limited
PROTECTIVE PUT Vs RATIO CALL SPREAD - Strategy Pros & Cons
PROTECTIVE PUT
RATIO CALL SPREAD
Similar Strategies
Long Call, Call Backspread
Variable Ratio Write
Disadvantage
• Value of protective put position decreases as time passes • Holding period of the protective put can be affected by the timing as a result tax rate on the profit or loss from the stock can be affected.
• Unlimited potential loss. • Complex strategy with limited profit.
Advantages
• Unlimited potential profit due to indefinitely rise in the underlying stock price . • This strategy allows you to hold on to your stocks while insuring against losses. • Hedging strategy, trader can guard himself from the downside risk.
• Downside risk is almost zero. • Investors can book profit from share prices moving within given limits. • Trader can maximise profit when the share closes at the upper breakeven point.
