Collar it

"Put a collar on that damn thing!" yelled my neighbor after my prized Pug escaped to ravage his in-heat mutt. He was right. The Pug had cost me over $1500 and the last thing I wanted was for Louie to run away. Put a collar on it. When you don't want something to get away from you, put a collar on it. Take the situation of protecting unrealized profits; you can put a collar on that, too.

Stock options are so flexible; I don't know why an investor would want to trade anything else. Among other things, stock options work for up markets, down markets, sideways markets and for collaring profits. Yes, collaring profits. What does that mean?

A stock option trader who understands the multiple uses of stock options will use a "collar" to lock in accumulated gains from stock positions. A collar demon-strates that just one stock option position can do several things: make a profit even if the market doesn't move up, can make money if the market moves down and can allow a trader to hedge for little or no cost. How does a collar work?

If an option trader has been holding an underlying stock that has accumulated gains and the trader is concerned about losing those unrealized gains (e.g. the trader feels that the market will enter a correction phase or the company may experience some bad news), the option trader can establish a "collar". This is done by opening a single position whereby the option trader will write an out-of - the-money covered call on the shares (each contract is 100 shares), and a simul-taneous long position in out-of-the-money puts. Both selling and buying are referred to as a combination having the same number of contracts and are established using the same expiration month.

The selling of the covered call provides a premium which will offset the cost of the long put position and many times provide a credit. If the underlying stock goes down, losses in accumulated profits are largely offset by gains of the long put position. If the stock goes up but does not go into the money, the position may provide additional profits on the premium and if the stock goes into the money and is called away, the stock option trader makes the additional profits over and above the original accumulated profits. Yes, if the stock is called away the stock option trader will lose the potential additional profits if the underlying stock were still held, but the collar is used when the feeling is that there is an imminent possibility of the stock losing value. The combination may be closed out as a unit just as it was established as a unit. To do this, the investor enters a combination order to buy a call with the same contract and sell a put with the same contract terms, paying a net debit or receiving a net cash credit as determined by current option prices in the marketplace.