Put Contracts

In this example we have the following elements:
STRIKE PRICE: $50
PREMIUM: $3.50

We are only focusing on the expiry point and where the profit and loss would be for both the buyer, and the seller. In this example, $3.50 was paid for the option, that ends up being $350 because it’s representing 100 shares. Should the price be above the strike price of $50, then the SELLER realizes maximum profit. The seller can also see profit if the price is below $50, but still above $46.50 because the premium received still counts as part of the profit or loss.

The BUYER on the other hand does not make any profit unless the stock price is below $46.50 because the buyer first paid $3.50 for the PUT contract. For it to be of any profit value, the price must drop below the point where it will generate profit.

KEY CONSIDERATIONS

The buyer is in effect paying for the chance to win. If the buyer is wrong, there is no plan B. It is only money lost on the option. This may be ok, as the purchase could have been an “insurance” against losing, or other valid reason for the buyer, but in the end, the buyer must be better than 100% right in order to profit at expiry.

The seller has to be close to being right to be able to profit, and also has a plan B if things do not work out. Although one may say it’s digging a deeper hole, ROLLING the option to a future date allows the seller to recover whatever loss may be in this instance, and receive a credit to extend the time frame of the contract with a new buyer. That topic can be covered in a different post.