The protective put
A protective put is insurance for a stock you own. You hold 100 shares and buy one put below the current price. The put pays off if the stock falls, putting a hard floor under your losses while leaving all of your upside intact. Like insurance, it costs a premium — and like insurance, you hope you never need it.
How it is built
Two pieces: long 100 shares and one long put at your chosen floor. Stock at $100, buy the $95 put for $2. No matter how far the stock falls, you can sell at $95 — so your worst case is a loss to $95 plus the $2 you paid, a floor of $93. Above the floor, you keep every dollar of gains; the only drag is the $2 premium, which lifts your breakeven to $102.
| Outlook | Bullish, but want downside protection |
|---|---|
| Max profit | Unlimited — full upside above the $102 breakeven |
| Max loss | (Purchase price − strike) + premium = $7/share |
| Breakeven | Purchase price + premium = $102 |
| Time decay (theta) | Works against you — you are long the put |
A market shock sends the stock to $80. Without the put you’d be down $20. With the $95 put, you exercise and sell at $95 — your loss is capped at $5 on the shares plus the $2 premium, or $7 total, instead of $20. The put did its job. In a calm market where the stock drifts to $105, the put expires worthless: you paid $2 for peace of mind you didn’t end up needing.
When to use it
Use a protective put when you want to stay invested but limit downside — through an earnings report, a nervous market, or simply to sleep at night on a large position. The cost of protection scales with implied volatility: puts are expensive precisely when fear is high, so buying protection early — before volatility spikes — is far cheaper than buying it in a panic. Watching volatility levels tells you whether insurance is on sale or overpriced.
Common pitfalls
Buying protection after the drop. Once volatility spikes, puts are dear. Insurance is cheapest when you don’t feel you need it.
Over-insuring. Constantly rolling puts can quietly cost more in premium than the losses they prevent. Match the protection to a real risk and horizon.
What to do with this
A protective put trades a known, small cost for protection against a large, uncertain loss. The obvious next question is how to pay for it — which is exactly what the collar does by selling a call to fund the put.
Protection costs premium. The collar pays for that put by selling a call — the next lesson.