FINRA Series 7Investment Information and Suitable RecommendationsMedium
An investor sells 1 uncovered XYZ 50 put for a premium of $4 when the stock is trading at $52. If XYZ stock falls to $0, what is the investor's maximum potential loss on this position?
- A$400
- B$5,000
- CUnlimited
- D$4,600
Show answer & explanationAnswer & explanation
Correct answer: D. $4,600
The maximum loss on a short put occurs if the stock goes to zero, forcing the seller to buy the stock at the strike price. Loss = (strike price − premium received) × 100 = ($50 − $4) × 100 = $4,600.
Why the other options are wrong
- A. This equals just the premium received, which is the maximum gain, not loss.
- B. This ignores the premium received, which offsets some of the loss.
- C. Short puts have a finite maximum loss since the stock cannot go below zero.
Short Put Maximum Loss
The maximum loss on a short (uncovered) put is limited to the strike price minus the premium received, multiplied by 100, occurring if the stock falls to zero.
- Max loss = (strike − premium) × 100
- Max gain = premium received
- Breakeven = strike − premium
Memory trick: 'Selling a put means catching a falling knife down to zero.'