Legal Definitions - put

A "put," often referred to as a put option, is a financial contract that grants the holder the right, but not the obligation, to sell a specific underlying asset at a predetermined price (known as the strike price) on or before a certain date (the expiration date). Investors typically purchase put options when they anticipate that the price of the underlying asset will decrease, allowing them to either profit from the decline or to protect against potential losses on assets they already own.

Here are some examples to illustrate how a put option works:

• Example 1: Hedging a Stock Investment
  Imagine Sarah owns 500 shares of "GreenTech Inc." stock, currently trading at $120 per share. She's concerned that an upcoming regulatory announcement might negatively impact the company's value, causing the stock price to drop in the next two months. To protect her investment, Sarah buys a put option with a strike price of $115, expiring in two months. If GreenTech's stock price falls to $100 per share due to the announcement, Sarah can exercise her put option. This allows her to sell her 500 shares at $115 each, even though the market price is lower. This action limits her potential loss to the difference between her original purchase price and the strike price, plus the cost of the option. If the stock price rises or stays above $115, she simply lets the option expire, losing only the premium she paid for the put, but her stock value increases.

• Example 2: Speculating on a Commodity Price Drop
  A professional trader believes that the price of natural gas, currently at $3.00 per unit, is likely to fall significantly over the next three months due to an expected increase in supply. To profit from this anticipated decline, the trader purchases several put options on natural gas futures contracts with a strike price of $2.80, expiring in three months. If the price of natural gas indeed drops to $2.50 per unit, the trader can exercise these put options. This allows them to effectively sell natural gas at $2.80 (the strike price) and then buy it back at the lower market price of $2.50, thereby making a profit on each unit. If natural gas prices rise, the trader's put options expire worthless, and their loss is limited to the premium paid for the options.

• Example 3: Managing Currency Risk for an Importer
  A U.S.-based electronics company plans to import a large shipment of components from Japan in four months, requiring a payment of 100 million Japanese Yen. The current exchange rate is 130 Yen per U.S. dollar. The company is worried that the Yen might strengthen against the dollar, making their import more expensive in dollar terms. To hedge this risk, they buy a put option on the Japanese Yen with a strike price of 125 Yen per dollar, expiring in four months. This gives them the right to sell Yen at 125 Yen per dollar. If the Yen strengthens to, say, 120 Yen per dollar (meaning it takes fewer Yen to buy one dollar, making imports more expensive), the company can exercise their put option. This allows them to effectively exchange their dollars for Yen at the more favorable rate of 125 Yen per dollar, protecting them from the adverse currency movement. If the Yen weakens, they simply let the option expire and convert their dollars at the more favorable market rate.