Covered calls and protective puts
Two stock-plus-option combinations: one trades upside for income, the other pays for a floor.
Options risk. Long options can lose 100% of the premium; short options can lose far more and may be assigned early. Examples use synthetic prices and the common 100-share multiplier — check actual contract terms.
Covered call
Own 100 shares and sell one call. Premium lowers your breakeven slightly and caps upside at the strike. Downside risk of the stock remains almost entirely.
Max profit = (strike − stock cost + premium) × 100. Breakeven = stock cost − premium.
Protective put
Own 100 shares and buy one put. The put sets a floor until expiration at the cost of the premium.
Max loss = (stock cost − put strike + premium) × 100. Breakeven = stock cost + premium.
Worked example
Both strategies on the same shares (synthetic, cost $60)
- Covered call: sell 65 call for 1.50. Max profit (65 − 60 + 1.50) × 100 = $650. Breakeven 58.50. If the stock falls to $45: loss (60 − 45 − 1.50) × 100 = $1,350.
- Protective put: buy 55 put for 2.00. Max loss (60 − 55 + 2) × 100 = $700. Breakeven 62.00. If the stock falls to $45, loss still $700.
Covered calls trade upside for premium; protective puts trade premium for a floor.
Common misconceptions
“Covered calls are risk-free income.”
You keep nearly all stock downside and give up upside above the strike.
“Protective puts are always worth buying.”
Repeated insurance costs add up and reduce long-run returns.
Checkpoint