What is a Put Option?

In stocks, it's a standardized exchange-traded contract that gives the buyer the right, but not the obligation, to sell a specified amount of stock (quantity), at a specified price (strike price), by a specified date (expiration date), for which the buyer pays a price (premium) to the seller.

Options trade just like stocks until the last trading day which is always the third Friday of the expiration month.

Option prices have two components: Intrinsic value and time value.

Intrinsic value is the amount by which the strike price is in the money. If the strike is out of the money, there is no intrinsic value.

Time value is the amount in excess of the intrinsic value.

Options may, or may not, have intrinsic value but they all have time value.

Comparing the strike price to the market price, options are described as being at-the-money, in-the-money, or out-of-the-money.

Depending on its use, the Put Option can provide protection, trading profits, or income as follows:

(1) As a form of insurance, protecting long positions against loss.

(2) Trading profits, as a substitute vehicle for short sales, in declining markets.

(3) Income, in the form of premiums received, from selling put options.

Examining the use of each in more detail, we find:

First, as a form of insurance, the simultaneous purchase of stock along with the nearest in-the-money Put Option fixes the amount at risk to the options' time value only: Stock price + Put price - Strike price = Risk. If the implied volatility is low, that's a cheap risk!