Put options are not structured products per se, but one of the basic element with which structured products are built. The buyer of a put option has the right (but not the obligation) to sell an underlying asset (a stock, a commodity or any other asset) at a predetermined price.
Long (left) and short (right) put option payoff
The buyer cannot loose more than he invested, whereas the seller's profit is limited to the cashed-in premium, but its loss potential is quasi-unlimited. Buyers profit when the underlying asset's value falls, while sellers loose. The breakeven for a buyer is reached, when the price of the underlying falls by the cost of the premium.
Note that the payoff diagram of a short put option (above, right hand side) is identical to a reverse convertible.
- Buy put options when your scenario for the underlying is strongly negative and volatility expected to rise.
- Carefully check the time to maturity: if your scenario realizes after the option expires, it will be worthless to you.
- Buy puts when the volatility of the underlying is low and / or you expect it to rise. The volatility in stocks tends to rise when prices fall, therefore the buyer of puts is rewarded additionally.
- Watch the liquidity of your put: it is not unusual to see large spreads in illiquid assets. If necessary, work with limits.
- Check the market often. Put options are usually very time-sensitive, and good timing is essential to enter and exit.
- Never, ever sell put options, if you have not the financial strength to support a loss which can rise to a multiple of the money you have invested.
- Don't buy or sell a put before you have clearly evaluated the risk.
- Don't overinvest. Puts are speculative and you must be ready to loose all (or more if you go short) the money you invested.
- Watch the skew (especially in stocks); don't buy puts where the volatility (and therefore the breakeven level) is too high compared with the strike. In stocks, the volatility usually rises with the out-of the moneyness.