The Married Put Strategy, also known as the Protective Put Strategy, is not used to create profits.  This strategy is used to “protect” principal, or in other words, it is used as an insurance policy.

Lets say we alreday own 100 shares of the QQQQ’s (Powershares Nasdaq 100 Index fund).  Today, the fund is worth approximatel $28.50/share.  Thinking over the last year, with most indices down 50% (or more) we want to make sure that we do not lose more than 15% from our current holdings (The smaller the loss that you want to protest against, the more expensive the “insurance”).  For this strategy, I would find the longest duration option that fits my criteria.  The reason I want the longest duration is because I do NOT want to have to repeat this trade very often.  The more trades that one makes, the more one pays in trading costs, and since this is insurance, I want to find the cheapest.  Also, as discussed earlier, the time value of an option decreases more rapidly as the expiration date approaches.  If I am purchasing time value, I do not want it to go to waste.  Here is a list of the January 2011 near the money puts for QQQQ.

 January 2011 Puts - QQQQ

If I purchase the OZCMZ (January 2011 $26 strike) Put option for $4.09, I will be “protected” if the stock falls below $26 before January 2011 (almost 2 years).  This “insurance” will have cost me $409 (+ trading costs).  You might be thinking that this sounds expensive.  Lets think what we would have paid for insurance if we owned Citibank at $27.00 at the end of April 2008 (Citibank is now $2.50) or Enron or Lehman Brothers (both bankrupt) or etc.  this strategy works especially well in a falling market.  Here is the risk/reward graph for this position.

 QQQQ Married Put

Final note:  As the expiration gets closer on this position and options are added at more dates, we should be able to sell this option and purchase another longer duration option, to keep the “protection” in place.