2.12 Hedging with Options
Hedging protects existing stock portfolios from adverse market moves. Covered calls generate income, while protective puts act as an insurance policy.
Key FINRA Exam Takeaways
- Covered Call: Long Stock + Short Call. Generates income on neutral stock; cushions downside risk only by the premium received.
- Protective Put: Long Stock + Long Put. Downside insurance; guarantees a minimum sale price (strike price) if the stock collapses.
- Bullish Hedging: Buy calls to lock in purchase price. Bearish Hedging: Buy puts to lock in sale price.
Knowledge Checkpoint • Section 2.12
An investor owns 1,000 shares of a technology stock and fears a sharp market drop over the next 30 days. To provide downside protection against a price decline, which position should the investor establish?