SIE Ready🎯 Options · Lesson 4 of 6 · 5 min
Protective Puts and Covered Calls
🛡️ Options are not only for speculators. Many investors use them to insure stock they own or to earn extra income from it.
💡 Key idea
Protective put = long stock + long put (insurance). Covered call = long stock + short call (income, capped upside). Short stock is hedged with a long call.
🧠 Why it matters
PROTECTIVE PUT: own the stock and BUY a put. It works like insurance: the put locks in a selling price, so downside is limited while upside stays open. Breakeven = stock cost + premium. COVERED CALL: own the stock and WRITE a call. The premium is extra income and cushions a small decline, but the upside is capped at the strike. Breakeven = stock cost − premium. Example: buy stock at 50, write a 55 call for 2. Max gain = (55 − 50 + 2) × 100 = $700. Max loss = (50 − 2) × 100 = $4,800. A short seller hedges with a LONG CALL, since a short stock position loses when the price rises.
📈 In the real world
🏡 Grace, a fictional retiree, owns 300 shares she bought years ago. She writes 3 calls to earn premium income, accepting that her shares may be called away at the strike. Her friend Tom, nervous before an earnings report, buys puts on his shares instead: he pays for protection rather than collecting income.
📌 Takeaways
- Protective put: limits downside, costs a premium, keeps upside
- Covered call: earns premium, limited downside cushion, caps upside
- Hedge a short stock position by buying a call
📖 Terms in this lesson
Covered call: Writing a call on stock already owned to collect premium income, giving up gains above the strike.
Protective put: Buying a put on stock already owned to put a floor under its value.
✅ Test yourself
A customer who owns stock wants to earn extra income and accepts a cap on upside. Which strategy matches?
- Buying a call
- Writing a covered call
- Writing an uncovered put
- Buying a put
Answer: B · Writing a covered call
Writing a call against stock already owned brings in premium income, and the shares may be called away at the strike, capping the gain. Buying a put is protection, not income.
A customer buys stock at 30 and buys a 30 put for 2. What is the breakeven?
- 30
- 34
- 32
- 28
Answer: C · 32
With a protective put, the stock must rise enough to recover the premium: 30 + 2 = 32. 28 would be the breakeven of a covered call (cost minus premium).
An investor who is short 100 shares wants to protect against a price rise. What could the investor do?
- Write a put
- Buy a call
- Buy a put
- Write a call
Answer: B · Buy a call
A short seller loses when the price rises. A long call sets a maximum price to buy back the shares. A long put adds to a bearish bet rather than hedging it; writing a call adds risk.
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