Personal Finance & Money Asked by Jason A on March 12, 2021
Good Afternoon All,
Quite frankly I’m stumped. I am aware of a covered position under normal circumstances, however in this particular situation there are less than 100 shares and I’d really like to protect this investment.
Scenario: I’m currently long 50 shares of xyz @700 and an additional investment to bring it up to 100 shares doesn’t make sense in the current market. If I write a put (as I would prefer to do) I would find myself short 50 shares.
Perhaps I’m missing something or have analysis paralysis here, but i’m for a loss.
Selling a put means that you are obligated to buy 100 shares if you are assigned. That isn't hedging. It's increasing your long exposure.
To hedge, you would buy a put. If you did so, your long shares would be protected (not covered).
Put protected long stock is analogous to buying insurance for your house. The premium is the cost and the amount that the put is out-of-the-money is the deductible. If you want a zero deductible, you pay a higher premium. If you accept a $500 deductible (OTM strike price), the premium is less. It costs even less for a $1,000 deductible (deeper OTM put).
There are alternate ways to hedge. If you want to spend less money on protection and you are willing to accept less overall protection, you could buy a bearish vertical put spread. Like above, more protection (wider spread) costs more. This vertical would only be a partial hedge and would not help much if share price cratered.
If you owned 100 shares and you were willing to cap your upside gain, you could sell an OTM call and use the proceeds to buy an OTM put. This is called a long stock collar and typically done for little to no cost, depending on the strikes chosen.
In the end, it's a decision of risk and reward. Reducing risk costs dollars (buying a put) or it is obtained by opportunity loss (selling the call in the collar).
Correct answer by Bob Baerker on March 12, 2021
No, there is not a conventional way to buy a non-standard option contract; it would have to be over-the-counter (OTC) and you would have to find the counterparty yourself (or through your broker), which introduces counterparty risk.
However, you could still buy a 100-share put option contract if all you're wanting is downside protection. If the stock goes below the strike, you could buy an additional 50 shares at the lower market price to fulfill the put, making additional profit from the put.
Or you could sell the put just prior to expiry, the profits from which would make up for the additional loss you suffer by the stock going below the strike.
The main downside is that the initial put would cost you twice as much as the protection you need; you can decide for yourself whether the protection is worth it. Or look at alternate hedging strategies as bob suggest that have a lower upfront cost.
Answered by D Stanley on March 12, 2021
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