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What is a Put option?

Put option gives the buyer the right but not the obligation to sell a given quantity of the underlying asset at a given price on or before a given future date.

For e.g.: Buying 1 put option of ONGC 1250 30Dec2010 comprising 250 equity shares for Rs. 15 per put, will give the buyer the right to sell 250 ONGC shares on or before 30th December 2010 at Rs. 1,250 per share, irrespective of the share price (in cash market). Since it is only a right and no obligation to sell, the buyer can let this right lapse, which will be the case when ONGC share price is more than Rs. 1,250 in cash market. In the above case, loss is limited to Rs. 15 while the gains are unlimited to the buyer.

Rs. 15 paid is termed as option premium or the cost of purchasing 1 put option containing the pre-determined quantity of the underlying i.e. 250 ONGC equity shares.

Selling a put option gives the seller the obligation to buy a given quantity of the underlying asset at a given price on or before a given future date, when the right is exercised by the buyer. For a seller of put option, profit is limited to the premium earned while loss it unlimited, as the buyer can exercise his put option anytime till the expiry of contract.

Source: sptulsian.com

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