A cash-secured put is an options trading strategy where an investor sells a put option while holding enough cash to purchase the underlying stock if assigned. This strategy is popular among traders who want to generate income, buy stocks at a lower price, or manage risk.
This topic explains the mechanics of cash-secured puts, their benefits, risks, and how to use them effectively in trading.
Understanding Cash-Secured Puts
A put option gives the buyer the right (but not the obligation) to sell a stock at a predetermined price (strike price) before a specific expiration date. When an investor sells a put, they take on the obligation to buy the stock if the option is exercised.
A cash-secured put means the seller has enough cash set aside to cover the purchase if the stock is assigned. This approach ensures financial security and prevents margin risks.
How a Cash-Secured Put Works
- Choose a stock you are willing to buy.
- Sell a put option at a strike price where you want to purchase the stock.
- Receive a premium from the put buyer.
- Wait for expiration or assignment:
- If the stock price stays above the strike price, the option expires worthless, and you keep the premium.
- If the stock price falls below the strike price, you must buy the stock at the agreed price, but at a discount due to the premium received.
Example of a Cash-Secured Put
Imagine you want to buy shares of Company XYZ, currently trading at $50 per share.
- You sell a put option with a strike price of $45 for a premium of $2 per share.
- The option contract represents 100 shares, so you receive $200 in premium (100 shares à $2).
- You keep $4,500 in cash (100 shares à $45) in your brokerage account to cover the possible purchase.
Possible Outcomes:
- Stock Stays Above $45
- The put option expires worthless.
- You keep the $200 premium as profit.
- No stock purchase happens.
- Stock Drops Below $45
- The put buyer exercises the option.
- You buy 100 shares at $45 per share.
- Your effective purchase price is $43 per share ($45 – $2 premium).
Benefits of Selling a Cash-Secured Put
1. Generates Income
Selling a put earns premium income regardless of whether the stock is assigned. If the option expires worthless, you keep the full premium as profit.
2. Allows Buying at a Discount
If assigned, you purchase the stock at the strike price minus the premium, giving you a lower effective cost than buying it directly.
3. Lower Risk Compared to Naked Puts
Since you set aside cash to cover the potential stock purchase, you avoid margin requirements and excessive risk.
4. Flexibility
This strategy works well in bullish or neutral markets. You earn a premium if the stock price remains stable or rises, and you get to buy the stock at a preferred price if it drops.
Risks of Cash-Secured Puts
1. Stock Assignment in a Declining Market
If the stock price falls sharply, you may be forced to buy at a higher price than the market value, leading to paper losses.
2. Opportunity Cost
While holding cash to secure the put, you lose the chance to invest it elsewhere for potentially higher returns.
3. Limited Profit Potential
Your maximum profit is the premium received. Unlike buying the stock directly, you do not benefit from unlimited upside gains.
How to Choose the Right Strike Price
Selecting the right strike price depends on your goal and risk tolerance.
- Aggressive Approach: Choose a strike price close to the current stock price to receive a higher premium but with a greater chance of assignment.
- Conservative Approach: Pick a lower strike price for a lower premium but reduced risk of assignment.
Best Stocks for Cash-Secured Puts
When selling cash-secured puts, choose stocks that are fundamentally strong and align with your investment strategy. Look for:
- Stable, blue-chip companies with consistent performance.
- Stocks you are willing to own at a lower price.
- Moderate volatility to balance risk and premium income.
Comparing Cash-Secured Puts and Covered Calls
| Feature | Cash-Secured Put | Covered Call |
|---|---|---|
| Obligation | Buy stock at strike price if assigned | Sell stock at strike price if assigned |
| Market Outlook | Neutral to bullish | Neutral to slightly bearish |
| Premium Income | Earned upfront | Earned upfront |
| Stock Ownership | No stock ownership at the start | Own stock before selling the call |
| Risk | Potential stock assignment | Losing stock if price rises |
When to Use a Cash-Secured Put
- If you want to buy a stock at a lower price than the current market value.
- If you seek extra income from option premiums.
- If you have a neutral or mildly bullish outlook on a stock.
- If you want a lower-risk alternative to margin trading.
Step-by-Step Guide to Selling a Cash-Secured Put
- Choose a stock you want to own.
- Select an appropriate strike price and expiration date.
- Ensure you have enough cash to cover a potential assignment.
- Sell the put option in your brokerage account.
- Monitor the position until expiration.
- Decide on next steps based on whether the option expires or gets assigned.
A cash-secured put is a low-risk options strategy ideal for generating income and buying stocks at a discount. By selling puts with enough cash to cover potential purchases, investors can earn premiums, reduce stock costs, and control risk.
While this strategy limits profit potential, it is a safe and effective approach for investors who want consistent returns and disciplined stock accumulation.