Introduction
Options are contracts that give you the right (but not the obligation) to buy (call) or sell (put) a stock at a specific price. They can generate income or protect against downsides.
Explanation
Covered Call: you own the stock and sell a call, generating premium income. If the stock goes up a lot, you limit your upside. Protective Put: You buy a put to protect against downsides, paying a premium as "insurance."
Formula
Covered Call: Income = Call Premium. Protective Put: Cost = Put Premium.
Example
Covered Call: You own 100 shares of AAPL at $180. You sell call strike $190 for $5 premium = $500 income. If AAPL rises to $195, you sell at $190 (you earn $10/share + $5 premium = $15). If it drops to $170, you hold stock + $5 premium (loss of only $5 vs $10). Protective Put: You own AAPL for $180. You buy put strike $170 for $3. If AAPL drops to $150, your put is worth $20, limiting loss to $13 ($10 drop + $3 premium).
How to read it
Covered calls are for investors who think the stock will rise moderately or remain flat. You generate income but limit upside. Protective puts are to protect gains or during high expected volatility. They cost money (premium) but limit losses. Only for investors who understand options; Leverage increases risk significantly if used incorrectly.
Key takeaways
- Call = right to buy, Put = right to sell
- Covered call: generates income, limits upside
- Protective put: protects against drops, costs premium
- Covered call: neutral to moderately bullish
- Protective put: insurance against falls
- Only for investors who understand options
- Options are leveraged = higher risk