Finance
If I own Apple stock and I feel that there is significant risk that the stock might decline in the next few months, there are a few different option strategies that might help to address this situation. Some strategies actively seek to protect value, while other strategies are more in line with trying to capitalize on the expected downturn in the value of the stock. The current price of Apple stock is $604.71. For the examples, it will be assumed that there are transaction costs.
The first strategy to try to protect some value for the stock is to purchase a put option. The put option gives the holder of the put the option of selling the stock at a certain price. Let's say that we want to protect this portfolio at $575.00. To buy a put on Apple at $575 will cost $12.75 for an August 16th expiry. The put protects the portfolio is that if the value of Apple drops below $575, then we will be able to sell the stock at $575 anyway, because we have paid for the right to sell the put at $575. The put is revenue neutral at $604.71 - $12.75 = $591.96
In other words, the market expects that there is a reasonable chance the underlying asset will price under $575 by expiry.
This might seem like a steep cost to pay for protection, but consider what might happen if Apple is trading at $540 when at the expiry date. The stock would have lost:
$604.71 -- 540 = $74.71
Instead the stock is sold at $575 and the loss is:
$604.71 - $575 = $29.71 + $12.75 = $42.46 At this level the put has paid off in terms of offering downside protection, but the high cost of the put means that the market for Apple stock has to diminish considerably before this put position is profitable. Mostly, you are paying the put premium in order to guarantee a worst-case scenario loss. If…
