Question

You’ve decided that Company ABC is a well-run company with a good product and solid future prospects. You are trying to decide whether to buy shares of stock in the company or whether to sell put options on the company stock instead. Explain two advantages and two disadvantages of buying the shares instead of writing the put options.

Answer 1

Advantages of buying the shares instead of writing the put options

1. If the stock price goes up after you buy the shares you make a profit

2. You are eligible for the dividends paid by the company if you hold the stocks

Disadvantages of buying the shares instead of writing the put options

1. You need huge capital upfront to buy the shares of the company

2. If you write an out of the money put option and the stock price goes down but not below the strike price, you get to keep the premium and an opportunity to buy the stock at a lower price. Writing a put option reduces your cost basis.

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