Put Option Definition
Put Option Explained
A put option gives a holder or investor the ability to make an essentially risk free profit if the market fluctuates correctly. The holder of an option can simply look into the market without taking any real part in it. The benefit for a put option holder comes if the stock price does not exceed the put option price. Therefore, the lower the better for the put option holder because he is selling into the market. A put is exercised only if the holder can deliver an asset that is worth less than the exercise price.
Put Option Example
Jim has received a put option with the right to sell 100 shares of Wawadoo Inc. at a price of $35 by December. The current month is January, and the current stock price is $32. Jim could exercise the put now, but he believes that the market will drive the Wawadoo stock further down. By November, the stock has dropped to $28. Jim exercises his option and makes a profit of $700 (($35*100) – ($28*100)). If the price had increased throughout the year and went above the put option exercise price then Jim would have simply let his option expire. By doing this Jim has not gained anything or lost anything, except the potential where he could have exercised the put at the beginning of the year.