Maximizing Returns with Covered Put Options
A covered put is a bearish-to-neutral strategy that combines a short stock position with a short (sold) put on the same stock, usually with a strike below the current price. The put premium adds income to the short sale. Maximum profit is the short-sale price minus the put strike plus the premium, earned if the stock falls to or below the strike; the risk is unlimited if the stock rises, because the short stock has no ceiling, and the premium only offsets a small rise. It is the mirror image of a covered call. This article is educational, not investment advice.
Put options are contracts that give the holder the right to sell an underlying asset at a pre-determined strike price up until the option’s expiration date. A different strategy, the collar option strategy, combines long stock with a long put and a short call to limit both gains and losses.
What Are Covered Put Options?
A covered put (also called a married short put) pairs two positions: you sell short 100 shares of a stock and sell one put option on the same stock. The short put is "covered" because, if it is exercised, you buy 100 shares at the strike, which closes the short stock position.
The goal is to earn the put premium on top of a bearish short-sale position. It does not reduce risk the way a hedge does: if the stock rises sharply, losses on the short shares keep growing, and the put premium offsets only a small part of them.
Working With Put Options
Put options primarily function as a hedge for traders to avoid market uncertainty and protect their current holdings. By taking out a long put option, traders can, in essence, insure their current holdings against a drop in stock prices. The downside to this approach is that traders have to pay a premium to have coverage from a protective put.
The maximum reward from a covered put is the short-sale price minus the put strike, plus the premium received. This makes covered puts suited to a moderately bearish or flat outlook; a large decline below the strike adds no extra profit.
Exploring Time Decay and Market Volatility
Options come with a concept called time decay, a metric that measures the value an option will lose over time as its expiration approaches. Time decay works in favor of a covered put writer, because the short put loses value as expiration approaches if the stock stays above the strike.
Market volatility can play a key role in the success of a strategy. Volatile markets can see large returns in a short amount of time, but also come with a litany of risk. Understanding the relationship between volatility and one’s put options is important, as it could mean the difference between a successful trade or a total loss.
How MarketXLS Fits In
MarketXLS provides a covered put Excel template (linked below) that calculates the payoff, maximum profit, and break-even from the stock price, strike, and premium you enter, and can pull current option prices with MarketXLS formulas such as =QM_Last() on an option symbol.
Here are some templates that you can use to create your own models
Covered Put
Covered Put
Collar Option Strategy
Search for all templates in the MarketXLS template library.
Relevant blogs that you can read to learn more about the topic
Covered Puts – What They Are & How You Can Profit From Them (Marketxls Options Data)
Maximizing Profits with a Bull Put Spread Strategy
Options Trading (Strategies)
Put Ratio Spread (Explained With Example)
The Wheel Strategy For Options (Explained With Example)
