Collar Strategy Explained
A collar holds stock, buys a put for downside protection, and sells a call to pay for it, capping both the loss and the gain in a defined band.
What it is
A collar wraps a stock position between a bought put and a sold call. You own the shares, buy an out-of-the-money put to floor the downside, and sell an out-of-the-money call whose premium pays for the put. The result is a position that cannot fall below the put strike or rise above the call strike: both the loss and the gain are capped in a defined band. When the call premium exactly covers the put, it is a zero-cost collar, protection for no out-of-pocket cost, in exchange for giving up the upside above the call strike. It is the standard way to protect a gain or ride out a risky period at little or no cash cost.
Payoff at expiration
When to use it
Use a collar when you hold a stock, want downside protection, and are willing to cap the upside to avoid paying for it. It suits investors sitting on a large unrealised gain who want to lock in a range through an uncertain period, or concentrated holders who cannot sell but want to define their risk. Choose the put strike at the floor you want to defend and the call strike at a price you would be content to sell, and adjust the width so the call premium covers as much of the put as you want. It gives up upside, so it is a hedge, not a way to grow a position.
Greeks profile
| Delta | Positive but reduced, since the long put and short call both trim the stock's directional exposure inside the band. |
| Gamma | Small and mixed: long gamma from the put near the floor, short gamma from the call near the cap. |
| Theta | Roughly neutral in a zero-cost collar, as the decaying long put and short call offset each other. |
| Vega | Roughly neutral to slightly long, depending on strike placement, since the long put and short call have opposing vega. |
Max profit, max loss & break-evens
Max profit = (call strike − stock cost) minus any net cost of the collar, reached at or above the call strike. Max loss = (stock cost − put strike) plus any net cost of the collar, the floor set by the put. Break-even = stock cost + net cost of the collar (near the stock cost for a zero-cost collar).
Concrete example
You own 100 shares at 100 and want to protect a risky quarter. You buy the 95 put for 2 and sell the 110 call for 2, a zero-cost collar. Your downside is floored at 95: the most you can lose is 5. Your upside is capped at 110: the most you can gain is 10. Between 95 and 110 you ride the stock as normal, and the protection cost you nothing out of pocket, only the upside above 110 that you agreed to give up.
Risks & management
The cost of a collar is opportunity: if the stock rallies hard above the call strike, you are capped and watch the gains you gave up, and you may be assigned on the short call. The floor also does not remove risk between the stock cost and the put strike, only below it. Manage by choosing a call strike high enough that the capped upside is acceptable, rolling the collar up if the stock rallies and you want to keep participating, and remembering that a zero-cost collar is not free, its price is the upside you surrender. It is a defined-band hedge, best used tactically around specific risks.
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