Protective Puts & Protective Calls

🔑 Master hedge table

A hedging strategy protects a stock position by adding a long option.

📌 The page’s own summary of the two strategies:

Definitions

In the securities industry, a hedge is anything you use to reduce risk in another position.

The page offers “a quick video introduction to this type of option strategy.”

Long stock with a long put hedge

A key risk for an investor with a long stock position is that the stock price declines, especially if it drops sharply. A long put options contract is a common hedge against this risk.

A long put gives you the right to sell the stock at a fixed price (the strike price), no matter how low the market price goes. The positions held:

• Long 100 shares of ABC stock @ $50
• Long 1 ABC Jan 50 put @ 6

The put costs $600 (a $6 premium × 100 shares). That premium is the cost of the insurance. In return, the contract gives the investor the right to sell ABC at $50 even if the stock falls far below $50. If the stock fell to $0, the investor could still exercise the put and sell at $50.

Here, the put’s job is protection. It’s like car insurance: you don’t buy it because you want to file a claim - you buy it so a bad outcome doesn’t become financially devastating. The investor still wants ABC to rise. The put is there to limit losses if ABC falls below $50.

Worked example 1 — ABC falls to $20

An investor purchases 100 shares of ABC stock at $50 and goes long 1 ABC Jan 50 put at $6. What is the gain or loss if ABC’s market price falls to $20 and the investor takes the most financially prudent action?

Answer = $600 loss

Action	Result
Buy shares	-$5,000
Buy put	-$600
Exercise - sell shares	+$5,000
Total	-$600

Because the market price ($20) is below the strike price ($50), the put is in the money (“put down”). The most financially prudent action is to exercise the put and sell the shares at $50, avoiding a much larger loss.

• Without the put, the stock loss would be $30 per share ($50 − $20), or $3,000.
• With the put, the investor sells at $50, so the stock purchase and sale price are a wash.
• The remaining loss is the put premium: $6 × 100 = $600.

Worked example 2 — ABC rises to $56 (breakeven)

An investor buys 100 shares of ABC stock at $50 and goes long 1 ABC Jan 50 put at $6. What is the gain or loss if ABC’s market price rises to $56?

Answer = $0 (breakeven)

Action	Result
Buy shares	-$5,000
Buy put	-$600
Sell value	+$5,600
Total	$0

Because the market price ($56) is above the strike price ($50), the put is out of the money and expires worthless. The shares are worth $56, creating a $6 per share gain ($600 total). That $600 stock gain is offset by the $600 premium paid for the put.

Worked example 3 — ABC rises to $90

An investor buys 100 shares of ABC stock at $50 and goes long 1 ABC Jan 50 put at $6. What is the gain or loss if ABC’s market price rises to $90?

Answer = $3,400 gain

Action	Result
Buy shares	-$5,000
Buy put	-$600
Share value	+$9,000
Total	+$3,400

Because the market price ($90) is above the strike price ($50), the put is out of the money and expires worthless. The shares are worth $90, creating a $40 per share gain ($4,000 total). Subtract the $600 premium, and the net gain is $3,400.

🔑 The trade-off in a protective put:

• The put premium reduces the stock profit.
• The upside is still unlimited because the stock can keep rising.

Short stock with a long call hedge

If the market price rises instead, the repurchase price is higher, which creates losses. Because there’s no ceiling on how high a stock can rise, short sellers face unlimited risk. (The text points to the short sales chapter for more on this type of transaction.)

A common hedge for a short stock position is a long call options contract, which gives the right to buy the stock at a fixed price. The positions held:

• Short 100 shares of ABC stock @ 80
• Long 1 ABC Jan 85 call @ $3

The call costs $300 ($3 × 100 shares). Without the call, the short stock position has unlimited loss potential. By buying the call, the investor caps the worst-case outcome.

In this strategy, the short stock position is still the main trade. The investor wants ABC to fall so they can buy back at a lower price and profit. The call is there for protection. The call is exercised only if the market price rises above the strike price (“call up”), allowing the investor to buy back at $85 in the worst-case scenario.

Worked example 1 — ABC falls to $50

An investor sells short 100 shares of ABC stock at $80 and goes long 1 ABC Jan 85 call at $3. What is the gain or loss if ABC’s market price falls to $50?

Answer = $2,700 gain

Action	Result
Sell short shares	+8,000
Buy call	-$300
Share buyback cost	-$5,000
Total	+$2,700

Because the market price ($50) is below the strike price ($85), the call is out of the money and expires worthless. The investor buys back the shares at $50, locking in a $30 per share gain ($3,000 total). Subtract the $300 premium, and the net gain is $2,700.

This example shows the gain potential of the strategy. The call premium reduces the profit, but the investor still benefits as the stock falls. If the market price fell to $0, the investor would realize their maximum gain ($7,700 in this example).

Worked example 2 — ABC falls to $77 (breakeven)

An investor sells short 100 shares of ABC stock at $80 and goes long 1 ABC Jan 85 call at $3. What is the gain or loss if ABC’s market price falls to $77?

Answer = $0 (breakeven)

Action	Result
Sell short shares	+8,000
Buy call	-$300
Buy back shares	-$7,700
Total	$0

Because the market price ($77) is below the strike price ($85), the call is out of the money and expires worthless. The investor gains $3 per share on the short stock ($300 total), which is exactly offset by the $300 premium.

Worked example 3 — ABC rises to $100 (maximum loss)

An investor sells short 100 shares of ABC stock at $80 and goes long 1 ABC Jan 85 call at $3. What is the gain or loss if ABC’s market price rises to $100 and the investor takes the most financially prudent action?

Answer = $800 loss

Action	Result
Sell short shares	+8,000
Buy call	-$300
Exercise - buy back shares	-$8,500
Total	-$800

Because the market price ($100) is above the strike price ($85), the call is in the money (“call up”). The most financially prudent action is to exercise the call and buy back the shares at $85 to avoid a larger loss.

• The short sale was at $80 and the buyback is at $85, creating a $5 per share loss ($500 total).
• Add the $300 premium, and the total loss is $800.

Key points

Hedging strategies

• Long option with a stock position
• Long option protects stock from risk

Long stock hedge

• Long stock & long put
• Market sentiment: bullish
• Put shields long stock from risk

Short stock hedge

• Short shares & long call
• Market sentiment: bearish
• Call shields short stock from risk

Sources

Primary/official references for the material in this chapter. Every link was fetched and returned HTTP 200 on 2026-08-15.