Covered Call and Protective Put

What is Covered Call and Protective Put?

Covered Call and Protective Puts are considered one of the most straightforward hedging strategies. 

In the covered call, we write an out-of-the-money call option; the combined position caps the upside potential at the strike price. In the strategy, we forgo any potential gain beyond the strike price; the writer receives the option premium. 

An at-the-money long put position in the protective put is combined with the underlying stock. A protective put is also referred to as portfolio insurance or a hedged portfolio. It is constructed by holding a long position in the underlying security and buying a put option. 

Example of Covered Call and Protective Put:

Let's consider an example of a covered call. To build a covered call, we will have to buy a stock at USD 20 and sell a call option at the same strike price of USD 20 while receiving the premium of USD 2.