Historic Options Example – BlackBerry

July 21, 2013

Falling more than 10 percent  from 55.69, BLACKBERRY’s share price continues to depress – a typical story in the marketplace today.   Despite the recent unveiling of its latest products – the Blackberry Bold and the Blackberry Storm (designed to compete with Apple’s iPhone) – it has had little effect in raising investor confidence.  The TSX’s wild swings merely exacerbate problems further.

So how can investors protect themselves in such volatile times?  “Puts” are a type of stock option that allows the owner to sell his stock at a specified price for a specific period of time. Much like house or car insurance, there is a premium for this option.  Puts are traded as contracts and one contract represents 100 shares. A “married put” is usually used when a trader is bullish on the stock, still wants the benefits of stock ownership (dividends, voting rights, etc.), but is weary of uncertainties in the near future.

In BLACKBERRY’s case, an options trader may be very bullish on BLACKBERRY stock, but worried about near term uncertainties. So he establishes a married put position by purchasing shares of BLACKBERRY stock trading at $50 in November while simultaneously buying the December 50 put options trading at $6.50 to protect his share purchase.

Maximum loss occurs when the stock price stays below $50 at expiration. With the December 50 puts in place, even if the stock price dives to $30, he will still be able to sell his holdings at $50.  Therefore, his maximum loss is limited to $0 in paper loss and the premium paid for the option.

On the upside, there is no limit to the profits should the stock price head north. Suppose the stock price goes up to $70, his profit will be $20 on the stock less the options premium.

By taking advantage of puts, investors can limit their losses in an unpredictable economic climate.

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