Protecting Your Profits Using Puts

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Quite often long-term investors with a buy and hold strategy lose a good portion of their annual portfolio gains to simple fluctuations in the market. Many of these investors have owned the stocks in their portfolio for an extended period of time and for tax reasons can’t simply sell them every time the market takes a drop. The following strategy allows investors to protect their gains as if they had sold the stock without actually making the sale.

 

One conservative use for stock options for the long-term investor is the utilization of put options to limit stock losses during market weakness. Lets say you owned 100 shares of Microsoft Corp. (MSFT) last year in mid July at 100, at this point the market started acting unfavorably and you felt the stock could drop over the next month. Rather than sell your stock and pay capital gains on the sale, you could have simply purchased an August 100 put option on the stock for approximately $750. As your stock decreased in value for the remainder of July and into the month of August, your put option would have increased in value by an amount comparable to the decrease in your stock price. Once the market began to recover you would simply sell your put option capturing its gains and eliminating your stocks losses. This simple strategy would have saved you approximately $1500 dollars when Microsoft hit a low of 81 ¾ on August 13^th and started to make a rebound going into the month of September.