 Hello and welcome to the session. This is Professor Farhad in which we would look at option strategies and specifically we're going to look at protective put Using the diagram this topic is covered on the CPA exam BEC section as well as the CFA And you would see this topic maybe in an essentials of investments or introduction to finance course As always, I would like to remind you to connect with me only then if you haven't done so YouTube is where you would need to subscribe. I have 1800 plus accounting, auditing, tax, finance as well as Excel tutorial. If you like my lectures Please like them and share them. If they benefit you it means they might benefit other people. On my website farhadlectures.com you will find additional resources to complement and supplement your Accounting discourse as well as other finance and accounting courses So what is the idea of a put? The idea of the put is the right to sell the stock at a certain price in the future Protective means you already have the stock. So let's assume we purchased a stock and we bought the stock for the price of the stock equal to $50 then what we do as we want to protect ourselves What does that mean? It means, you know, just in case the stock the stock price drops I don't want to take a lot of losses. So here's what I'm gonna do I'm gonna buy the option to sell the stock I'm gonna buy a put option and that put option is protectivist to protect my stock So I'm gonna buy an option and The exercise Price It's gonna be $45 it means and this is for the next just let's say 45 days just so I the next 45 days any time I can sell my stock at 45 and That comes with the price. So I'm gonna have to pay a premium of $2 That's basically what it is. I pay $2 now I buy a contract to sell my stock at $45 and the next also 45 days. It doesn't matter. Let's make it 60 days So we don't have 245 and the next 60 in the next two months 60 days So now you you need to know What is your max loss? What is your max gain? What is your break even and how can you compute your profit? Well, here's what we have to do. We're gonna use a diagram to illustrate this concept Now I'm gonna try to scale the diagram as much as possible It's gonna be a little bit tough to scale But we'll try to do it on the vertical line. You're gonna have the profit and loss line So this is zero. This is the profit and this is the loss. So basically we're gonna have one two Three four again, it's not gonna be scaled perfectly Negative one negative two losses negative three and negative four On on the horizontal axis, we're gonna have the stock price And let's start with my price. My price is 50 and let's assume 50 is Right here. So this is $50 $50 Now if I have the stock and it's at $50 what's gonna happen is this my profit and loss It's gonna be a vertical line with a slope of one It means for it, you know, if the stock goes up a dollar. I make a dollar if the stock goes down a dollar I lose a dollar. So this is basically the profit and loss for the stock itself. It's at $50 Now what's gonna happen is this I Purchased the option and that option. It's gonna guarantee me. I can sell it. Let me use a different color I can sell it at $45. So this is the exercise price. So what happened is this? What happened is this? For $2 here we have for $2. Here's what happens for $2. So if I pay $2 I can Limit my losses. I Can limit my losses to how much to $45 so the maximum I would lose is $45 Okay, then Then when do I make a profit? Well, think about it. I paid $50 For the stock when I paid an additional $2 for the premium. So so the really my cost basis is someplace here 52 so I will start to make a profit once I reach 52 and above because $50 is my cost $2 as my profit So now the question is You know, what is my profit? What's my loss? Here's what's gonna happen? Here's what's gonna happen any price. So if I ask so if you ask me what happened if the price at expiration Let's assume it that after 60 days the price is $30 the price is 25 any price Below $45. Here's what's gonna happen any price Below gonna put this and let me use different color that I did not use I'm gonna use it in black So any price below 45? Do you see this any price below 45? What's my loss any price below 45? My loss is a maximum of seven why seven I'm gonna lose five dollars on the stock because I bought it at 50 That's five dollar on the stock and I'm gonna lose two dollars for the premium. So five and five Negative seven. So this is my max Loss so what did this what did this protective put it to me? Well, it basically limited my losses So the maximum I would lose on this stock on this purchase seven dollars It doesn't matter even if the stock goes down to zero I can't force someone to buy it and the next assuming within the expiration date within 60 days to buy it at 45 So that's my max loss. Well, what's my max gain? Well, the max gain is unlimited Why is it unlimited? Because the stock could go up to, you know, one thousand dollar or Theoretically it could it could go forever. Okay, the point is once it crosses 52 Everything is you know, everything is profit for me. Then, you know, everything is profit for me So I have to exceed the price of 52. So so what's the max profit? The profit is unlimited Now, what is the break even point the break even point is 52. This is the break even point So I break even at exactly $52 I have so simply put I break even so so simply the break even point is The price that you paid Price paid for the stock plus the premium Which is in our situation again, we said it's $52 you paid $50 for the price $2 for the premium the the profit is unlimited the profit is unlimited and at technically at Yes, at 52 you at 52 you basically you break even at 52 break even now What could happen is this if the stock price remained between 52 and 45 of the price stayed between 45 and 52 this is like in between those in between 45 and 52 really you did not benefit from the put because Because you know it did not drop below 45 to benefit from it. It did not exceed 52 to benefit So it did not drop below 45 to take care to take advantage of the put I did not exceed 52 to take advantage of the stock price. So really nothing happened If it goes below 45 You'll be glad that you paid the extra two dollars for the premium. Therefore your max loss is seven If it exceeded 52, you're gonna say I wished I did not pay the extra two dollars But look you paid the two dollars for your protection and this is basically what is a protective put Again, you are Protecting yourself from the downside of the stock. So this is what a protective put So you're not your worst case between 45 and 52 you really it's gonna go unexpired in your stock price You did not really make any money on your stock. Okay, so remember this area right here anything above 52 I wish I did not buy the put anything below 45 I'm glad I bought the put and the next session what we would look at is Covered calls covered calls once again I'm gonna invite you to visit my website for head lectures dot com for additional resources For this course as well as your other courses Please share the channel if you find this recording helpful. Good luck study hard and of course stay safe