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Protective Put Definition
Definition
A protective put combines long stock with a long put on the same stock. The put gives the investor a floor by allowing the stock to be sold at the strike price.
Why it matters on the Series 7
The exam commonly tests protective puts as downside protection for a customer who wants to keep stock ownership but limit loss below a stated level.
Example
A customer owns stock at 50 and buys a 50 put for 3. The put protects the stock below 50, but the premium raises the breakeven to 53.
Common mistakes
- Forgetting that buying protection costs premium and raises breakeven.
- Confusing a protective put with a covered call income strategy.
- Treating the hedge as eliminating all risk, including premium cost.