A protective put pairs a stock you own with a purchased put option on that same stock. The put gives you the right — never the obligation — to sell at the strike price no matter how far the market price falls, so it acts as an insurance floor under your stock position. That insurance costs a premium, paid upfront, regardless of whether the stock falls (protection used) or rises (protection wasted but still paid for).
Stock-alone P/L(S) = S − purchase
Hedged P/L(S) = Stock-alone P/L(S) + max(strike − S, 0) − premium
= flat at (strike − purchase − premium) when S ≤ strike
= (S − purchase − premium) when S ≥ strike
- Purchase price — what you originally paid per share for the stock you hold.
- Strike price — the guaranteed sale price locked in by the put; this is where the hedged line's floor sits and where it kicks in.
- Premium — the upfront cost of the put; it shifts the entire hedged payoff line down by this amount at every price, capping the floor and trimming the ceiling equally.
- Stock price at expiration — drag to see both positions' realized profit/loss converge, diverge, and flatten as the market outcome changes.
Real-world relevance: fund managers and long-term holders buy protective puts ahead of earnings, macro events or simply to sleep at night — trading a small, known, upfront cost for a hard floor under a much larger, unknown downside.