A collar is three positions in one. Long stock. Long protective put. Short covered call. The call you sell pays for the put you buy. You walk away with a floor under your shares and a ceiling above them.
That trade off is the entire strategy. You give up the runaway upside in exchange for paying nothing or close to nothing for downside protection.
Long 100 shares at $150. Buy the $140 put. Sell the $160 call. Both options dated the same expiration, usually thirty to sixty days out.
If the stock stays between $140 and $160 at expiration, both options expire worthless. You keep your shares. Net cost: whatever debit or credit you opened for.
If the stock drops to $120, the put pays you $20 per share. You are protected below $140.
If the stock rallies to $180, the call gets assigned. You sell your shares at $160. You miss the gain above the cap.
Tighter collars give better protection but cap upside harder. Wider collars give more room but cost more in premium difference.
You have a large position you do not want to sell for tax reasons. A known event is coming. You want to keep the shares but cap the downside through the window.
Concentrated positions in retirement accounts. Long term holds you want to protect through a Fed meeting or earnings.
Not a good fit for short term trading. The collar caps your upside. If you wanted unlimited upside, you would not have put a collar on it.
If the stock rallies past your short call, you have decisions. Let it get assigned and walk away with the gain plus the credit. Or roll the call up and out for more premium and keep the shares.
If the stock crashes past your long put, the put gains value. You can sell the put and ride the rebound with shares plus cash. Or hold the put as the floor and wait it out.
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