What is a Married Put?
A married put is a hedging strategy used by traders to protect themselves against the downside risk associated with the underlying security for a predetermined amount of time. Married puts allows a trader to enter a long position in the stock with a predefined risk tolerance; it is a low risk, bullish strategy protecting against short term downside risks. The purchase of this put protection will effectively raise the net cost of the stock by the amount paid for the put and therefore will not cap your upside potential as a covered call would. You will see traders engage in a married put strategy right before an earnings announcement or other major news announcement that could dramatically shift the price of the underlying stock. For this reason, married puts are usually purchased at the money with a shorter term to expiration.
Married Put Risk Characteristics
In the graph below, you can see the difference between the profit/loss scenarios for both the married put strategy and the stock by itself. As opposed to just having the underlying security, married puts limits your downside risk while still allowing unlimited profits. The maximum loss theoretically is the price of the put premium paid. Below, you will see an exact formula for calculating risk.
Options strategy - Married Puts
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Risk = Purchase Price of Underlying - Strike Price of Put + Put Premium
Profit Potential = Unlimited, however decreased by the put premium paid.
Breakeven (*b1) = Purchase Price of Underlying (Should be very close to Put Strike) + Put Premium Paid
Married Put Trading Example
Let's take a quick look at a married put trading example. GDX is currently trading at nearly $21 dollars and we think it is going to be significantly higher in the next few months. However, assume that we also believe that here is downside risk over the next few weeks. Therefore, we will buy GDX at $20.95 and also buy the December 21 puts, which expire in 6 weeks. We are now in at $24.05 ($20.95 + $3.10) with a downside risk of 21. Before we go further, let me just say that this premium is absurd, basically 15% for 6 weeks of protection. Yes, the market is currently in the worst decline in decades and yes that means that implied volatility is extremely high; but this setup is not ideal.
With this setup, we are looking at a breakeven price of $24.05 as we stated above. The risk in the trade is $3.05 and the upside potential is unlimited past $24.05.
Married puts are best used when there is a higher chance of the unexpected; this could be a result of earnings announcements or other major market moving news releases. It is very important that you do not overpay for the option, usually pay no more than 5% to 10% for downside protection at the money when you are dealing with shorter dated options.
When the markets are extremely volatile and some issues have been taken down 80 to 90% off their peaks, married puts could be justified as a way to enter the stock with limited risk; and strong upside potential.
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