Saturday, April 30, 2011

intuitive - with PUT option, first look

When I read financial articles, I find PUT options harder to understand than most derivatives. Here's my summary

--> You use a put insurance  when you think that underlying might fall.
--> A put insurance let's you unload your worthless asset and cash in a reasonably high strike price

Here's a longer version

--> You use a put insurance (on an underlying) at price $100 when you think that underlying might fall below $100. This insurance lets you "unload" your asset and cash in $100. Note most put or calls traded are OTM.

A good thing about this simplified intuitive definition is, current underlying price doesn't matter.Specifically, it doesn't matter whether current underlying price is below or above strike (ie in the money or out).

Q: both a short position (in the underlying) and a put holder benefits from the fall. Any difference?
A: I feel if listed puts are available, then they are preferable to holding a short position. Probably cheaper and don't tie up lots of cash.

Q: how about the put writer?
A: (perhaps not part of the "intuitive" first lesson on puts)
A: sound byte --- an "insurer" .
A: therefore they don't want volatility.  They want underlying price to stay high or at least be stable

Simplest underlying is a stock.

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