Option buying: What are the key risks in put options?
1 min read 01 Oct 2022, 07:04 AM ISTThere are a slew of risks faced by traders of put options. These risks vary in magnitude from the buyer of option to the seller of option. Read more to find out
PremiumPut allows the holder an option, and not an obligation, to sell a security at a predetermined price prior to the expiry date. The holder o f the option is known as buyer, while the option seller is called ‘writer’. The key risks which the options traders face fluctuate between a ‘holder’ and a ‘writer’. Let us understand the quantum of risk that they face:
Put holder
When a buyer or holder buys a ‘put’, they buy a right to sell a stock at a specific price to the seller. The risk they face is the premium spent on buying the put. On the other hand, the earning potential is the difference between the share price at the time of sale and the strike price. Puts are generally bought when the research indicates that share price will fall in the immediate future. So, when someone buys a put, they expect the price to fall down – while incurring an immediate risk of paying a premium.
Put writer
When you sell a put, you sell the ‘right to sell’ to someone else. The potential to earn for a seller or writer is the premium paid for the option by the buyer. On the other hand, the risk is the strike price at which the put holder will sell stock. The put writer, in order to avoid the risk, would want the market price to stay higher than the strike price. In such a case, the holder of the put option would rather sell the security in the market, instead of exercising the option, and selling it cheaper.
Although there is no denying the fact that options trading is risky, if you carry out thorough research, it is only as risky as an individual stock. In fact, it can even be more lucrative than the individual stocks — if it is done the right way.
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