What is a Stock Put?

//What is a Stock Put?
What is a Stock Put? 2017-10-10T07:52:29+00:00

Definition: Stock put is the right, but not the obligation, to sell an underlying asset at a specified date for a pre-determined price. In other words, the holder of put option can exercise the option on or before the expiry date and can sell the asset if it appears to be more profitable.

What Does Stock Put Mean?

What is the definition of stock put? The underlying asset is used in derivatives trading and can be any financial instrument including, foreign currency, commodity, and stock. Stock puts are used to get protection against possible decrease in price of underlying asset.

There are two types of stock put options, i.e. American and European style options. The American style options can be exercised on or before the expiry date whereas the European style options can only be exercised on expiry date.

Example

A UK company, KNC Ltd. needs to make a payment of $10 million to its foreign supplier for goods purchased after four month time period. According to economic conditions, the company is of the view that after four-month period the US dollar might rise against British pound. This means that KNC Ltd. might have to pay more pounds for each dollar.

If it was certain that dollar would move adversely against pound, KNC Ltd. would have opted for other derivatives which fix the exchange rate for a future date. However, this isn’t certain. It is possible that the dollar might fall against British pound, making KNC Ltd. pay less than it would pay today.

As a result, KNC Ltd. would enter into an option contract to sell British pounds in future at a certain strike price within or at a specified expiry date of option. After four-month period, KNC Ltd. will have to sell British pounds in order to buy US dollars, so that it can pay the foreign supplier in US dollars.

However, if the foreign currency moves in a favorable trend for KNC Ltd., the company has the option to not exercise the option contract, as it has no obligation to exercise it and can make use of favorable trend in the exchange rate instead.

Summary Definition

Define Stock Put: Stock put means an option that investors use to hedge their investments allowing them to buy and sell securities on speculative future values.