Hedging Equity Portfolios with SPY Put Options
Summary
The article explains how a put option can cap losses on a stock portfolio while preserving upside beyond the option premium. It first illustrates the payoff for a holding of 100 SPY shares, then shows how a chosen maximum loss can inform the put strike. In its example, an October SPY put with a 465 strike is priced at 1.06 per share, producing a stated premium of 106 for the 100-share position. The article treats that premium as the cost of insurance rather than deriving whether the option is fairly valued. For a portfolio that does not track SPY exactly, it estimates a 100-day rolling beta against the index and uses that estimate to size the hedge. A small-cap portfolio example yields a beta near 1.41, but the estimate is described as noisy. The discussion highlights basis and correlation risk, as well as the trade-off between over- and under-hedging. Whether protection is worthwhile depends on portfolio risk, tolerance for losses, and whether the underlying strategy’s edge can justify the insurance cost.
Key ideas
- A long put can limit portfolio losses below its strike, while the premium reduces returns across outcomes.
- A loss limit can guide the choice of put strike without requiring a full option-pricing model.
- An index hedge for a different portfolio can be sized using an estimated portfolio beta.
- Rolling beta estimates are noisy, and index puts leave basis and correlation risks.
- Hedging costs should be weighed against the portfolio's edge, leverage, and downside tolerance.
Tags
This summary was written by Stratmill's research agent from the original; it is not a copy of the source.