Today, what I’d like to do is share with you how to buy a put option. Now, this is an excellent video for you to watch if you’re looking just to get started in trading options or investing in options or you have some fundamental questions about options. We’re not going to cover everything about options in this video. It’s just a quick little insight to just getting started at looking how you would place a trade to buying a put option.
What is a put option?
When you’re buying a put, it means you are looking for the stock to go down. Basically bearish and means you have a slight bearish position.
If you’re a seller of a put, it means you’re looking for the stock to go up, which is bullish.
In this video, we’re focused on the buying side of buying a put. It means you’re looking for that contract to go down the stock to go down so that way you make a little more money from the put contract.
Ultimately, that’s what people do when it comes to trading options.
Why would they want to buy a put?
If you own stock – let’s say I own 500 shares of Netflix, and I want to hedge it or protect it, what I may want to do is buy a few quick contracts so that way if that stock goes down at least they make a little bit of money on the puts. The puts aren’t going to replace me getting out of the stock entirely, it’s not going to negate my position totally, it will only protect a little small part of it.
You can do one put or two puts or three puts – typically it’s based on loss of a hundred. So, if you do one put it covers 100 shares, that’s just the way option contracts work.
If you have 500 shares of let’s say Netflix, and you want only to protect one or two hundred shares, you could get one or two puts – which will cover 100 or 200 shares regarding protection.
Ultimately, that’s what a put is if it’s a downward exposure subtly.
Here’s a quick little cheat sheet for you
If you’re a buyer of a put, you want that stock to go down. If you’re a seller, things work a little bit backward. If you’re a seller of a call, you want that stock to go down, and if you’re a seller of a put, you want it to go up.
Buying a put option
If we look at a risk profile picture and what it looks like for when you buy a put
On the left side, I have either a profit or loss depending on if I’m above or below this zero line.
On the bottom, I have the price of the stock
When you look at this profit line, the black line is the line at expiration because contracts have a specific timeframe of expiration. This pink or purple line is the current today line, and with a time that line gets closer and closer to the black line.
If we break this apart and start evaluating and looking at where would I be at a $20 strike price if you bought a put you’d be in the profitable range. If that stock continues to go lower, so let’s say the $15 range, again you’d be a little bit higher regarding profit. But if it gets into the $30 range, you be in the losing territory. If it goes in the $40 range, again you’d also be in the lost territory.
That’s how you read this up the picture. When you look at buying a put, you can see the direction that you’re based on and focus on. You want a downward move in the stock price, and you want to do it as quick as possible because that pink line is getting closer and closer to the black line.
Let’s look at how to buy a put option on screen or a trading platform
In this example, I have a paper trade account here with Netflix. This is the think or swim platform. I have $2230 in fake money profits, and I’m going to use this here as an example I have 100 shares.
Here’s my fundamental analysis of where I’m at now. I got this stock around this price point. You can see this red hash mark or the one 2972 priced level. That’s what it is on this on the price okay now.
With time, that stock moved up, and now I am profitable $2233. It allows me to go ahead and fully cash out of this position or if I believe Netflix still has a longer potential for the future. I could hedge it or protect it by buying a put contract.
What I can do is going to Netflix, and I could say well I want protection for about sixty days. I could say I bought it at 130, so if I want to protect it at 135, I could go ahead buy a single contract somewhere around there. It’ll cost me a little bit for that protection.
This protection will cost me $279. You can see that multiply it times one hundred. $2.79 times 100 is $279. So here I’m spending $279 to protect my profit which puts me at the $135 level.
It’s not going to offset the full difference of what I lose because on that $314 in profit, but I’m going to lose much more of that actually in the regular stock, but this helps compensate me a little bit for that loss.
That’s what puts ultimately allow you to do.
If you look at the stock position 140, my profit would only be $1011 compare that to $2233.
I’m mainly reading about $1200 if that’s not going to 140. But if I have the put, remember I would make up $314. The reality is I wouldn’t be at 1011 I’d probably be at 1315 regarding negative, which is still you know I’m still losing quite a bit of money, but it’s not as bad.
So, I make an extra $320 or so by holding on to these puts. If things become a disaster, of course, at expiration, I could go ahead and put that stock to someone else, and that’s another approach or way of doing it.
If you combine these things, you can see that I’m still going to be always profitable, at least $250 at expiration simply because of where my price is already now.
For many people, they only go on and buy a put, so they don’t even look at owning the stock. That’s not uncommon.
That’s ultimately what a put allows you to do. And to place this order, what I can do is right-click confirm and send. There are all the details right there, and all I have to do is hit the send button submit it, and it’s going to go into the queue and put on that trade for me.
I’m risking $2300 because it’s the $23 put multiplied times one hundred, hence the $2300. That’s the green line at the bottom. That’s how much I’m risking.
A potential that I can make from here is $2300. If that stock head down to, let’s say, 930/940, I make $2300 which is I make whatever I risk. The one-to-one risk-reward ratio which is fantastic and that the power of option.
If it goes down to about 900, which for Amazon’s a ninety point sell-off, it could happen in four or five days, it probably wouldn’t happen in one day, but it’s possible you make about $4000 now.
That’s just seeing the money spotlight. Keep in mind you’re also losing theta time and time again, so with time, that white line will get closer to the green line. You’re going to be losing money each day that stock or options stand still and within a couple of weeks, you could be down about $1500.
So keep that in mind, as you’re trading or buying put contracts.