Man standing next to a Wall Street sign
Source: Getty Images

What Does It Mean to Sell a Put Option? Options Trading, Explained

Robin Hill-Gray - Author
By

Nov. 30 2021, Published 1:26 p.m. ET

When it comes to trading stocks, it can be overwhelming especially for beginners. Options trading, while popular and lucrative, is still somewhat difficult to understand—specifically, trading put options.

Article continues below advertisement

What's a put option and what does it mean to sell a put option? To understand put options, it's necessary to understand options trading and how it's different from regular stock trading.

selling a put option
Source: istock
Article continues below advertisement

Options trading differs from stock trading.

Options trading gives the investor the right to buy or sell an underlying asset for a specific price. Options involve contracts that the buyer pays a premium for. There are also puts and calls in this type of trading. Options trading isn't to be confused with trading stocks. "Call" options give an investor the right to buy an underlying asset within a specific timeframe and price. A "put" gives the investor the right to sell the underlying asset for a specific price before it expires.

The specific price agreed upon is called the "strike price." The "premium" is the actual price of the option for anyone buying or selling. "Expiration" is when the option expires or is settled. For a put, the options' value increases as the underlying assets value or price decreases. The put options' value goes down as the underlying asset appreciates. "Underlying assets" can include stocks, commodities, indexes, and currencies.

Article continues below advertisement

A put gives “the owner the right, but not the obligation, to sell the underlying stock at a set price within a specified time.” Stocks refer to ownership of shares in a company, while options deal with contracts from investors who chose to bet on the direction they think a stock price is headed. Investors who are active traders and are seeking flexibility are directed towards options. Beginning investors and long-term investors are directed towards stock trading.

Source: Twitter

Illustration on option trading

Article continues below advertisement

What are put options and how do investors sell them?

Put options are either in the money or out of the money. A put is in the money if the market price is under the strike price. The owner of the put can sell the asset for more than the current market price. Puts are out of the money if the stock stays at or rises above the strike price, which causes the put to likely expire worthless. If an investor buys a put, they expect the stock price to decline.

NerdWallet provides an example of selling a put option. The example is “XYZ is trading for $50 a share. Puts with a strike price of $50 can be sold for a $5 premium and expire in six months. In total, one put contract sells for $500 ($5 premium x 100 shares).” In this case, each option contract will represent 100 shares.

Every time the stock decreases under the strike price by $1, the option cost for the seller increases by $100. People exercise put options to get better buy prices for their stock, receive income from the premium, or gain capital with less aggressive risk.

Advertisement

Latest Personal Finance News and Updates

    © Copyright 2022 Market Realist. Market Realist is a registered trademark. All Rights Reserved. People may receive compensation for some links to products and services on this website. Offers may be subject to change without notice.