Fence (Options)

DEFINITION of 'Fence (Options)'

A fence or collar is an option strategy that establishes a trading band around a security or commodity, generally to protect profits. One form of a fence involves the sale of an out-of-the-money call option on an underlying security; all or part of the premium thus received is used to buy a protective out-of-the money put on the security. Both the call and the put have the same expiration date. The call option establishes a ceiling price for the security, while the put option establishes a floor price for it, effectively 'fencing' in the option.

BREAKING DOWN 'Fence (Options)'

A widely used variant of this option strategy involves a "costless collar," where the premium received through the sale of the call roughly equals the premium paid for the purchase of the put. The cost of protection in this case is therefore zero.


For example, an investor who wishes to construct a fence or collar around a stock in the portfolio that is trading at $50 could sell a call with a strike price of $53, and buy a put with a strike price of $47, both with, say, three months to expiration. If the premium received from the sale of the $53 call equals the premium paid for the $47 put, this would be a "costless collar", and "fence" in potential losses and profits.

RELATED TERMS
  1. Collar

    1. A protective options strategy that is implemented after a ...
  2. Put Option

    An option contract giving the owner the right, but not the obligation, ...
  3. Covered Call

    An options strategy whereby an investor holds a long position ...
  4. Out Of The Money - OTM

    A call option with a strike price that is higher than the market ...
  5. Risk

    The chance that an investment's actual return will be different ...
  6. Call Option

    An agreement that gives an investor the right (but not the obligation) ...
Related Articles
  1. Options & Futures

    Market Volatility Strategy: Collars

    Find out which protective or bullish collar will result in your optimal risk/return level.
  2. Options & Futures

    Using LEAPS With Collars

    This options strategy will help you lock in profit while keeping your upside potential.
  3. Options & Futures

    Don't Forget Your Protective Collar

    Guard your finances in uncertain times with a protective collar strategy, which provides short-term downside protection.
  4. Options & Futures

    Costless Collars: Because Asset Allocation Is Not Enough

    Collars are extremely flexible, and can be much more beneficial to your portfolio than asset allocation.
  5. Options & Futures

    Minimize Risk With The Long Collar

    Think your favorite stock is on the way down? This simple option-trading strategy can help you manage your risks without selling the stock.
  6. Retirement

    Roth IRAs Tutorial

    This comprehensive guide goes through what a Roth IRA is and how to set one up, contribute to it and withdraw from it.
  7. Options & Futures

    What Does Quadruple Witching Mean?

    In a financial context, quadruple witching refers to the day on which contracts for stock index futures, index options, and single stock futures expire.
  8. Options & Futures

    4 Equity Derivatives And How They Work

    Equity derivatives offer retail investors opportunities to benefit from an underlying security without owning the security itself.
  9. Options & Futures

    Five Advantages of Futures Over Options

    Futures have a number of advantages over options such as fixed upfront trading costs, lack of time decay and liquidity.
  10. Term

    What is Pegging?

    Pegging refers to the practice of fixing one country's currency to that of another country. It also describes a practice in which investors avoid purchasing security shares underlying a put option.
RELATED FAQS
  1. What is a derivative?

    A derivative is a contract between two or more parties whose value is based on an agreed-upon underlying financial asset, ... Read Full Answer >>
  2. What is after-hours trading? Am I able to trade at this time?

    After-hours trading (AHT) refers to the buying and selling of securities on major exchanges outside of specified regular ... Read Full Answer >>
  3. How do hedge funds use equity options?

    With the growth in the size and number of hedge funds over the past decade, the interest in how these funds go about generating ... Read Full Answer >>
  4. Can mutual funds invest in options and futures? (RYMBX, GATEX)

    Mutual funds invest in not only stocks and fixed-income securities but also options and futures. There exists a separate ... Read Full Answer >>
  5. How does a forward contract differ from a call option? (AAPL)

    Forward contracts and call options are different financial instruments that allow two parties to purchase or sell assets ... Read Full Answer >>
  6. What are common delta hedging strategies?

    The term delta refers to the change in price of an underlying stock or exchange-traded fund (ETF) as compared to the corresponding ... Read Full Answer >>
Hot Definitions
  1. Liquidation Margin

    Liquidation margin refers to the value of all of the equity positions in a margin account. If an investor or trader holds ...
  2. Black Swan

    An event or occurrence that deviates beyond what is normally expected of a situation and that would be extremely difficult ...
  3. Inverted Yield Curve

    An interest rate environment in which long-term debt instruments have a lower yield than short-term debt instruments of the ...
  4. Socially Responsible Investment - SRI

    An investment that is considered socially responsible because of the nature of the business the company conducts. Common ...
  5. Presidential Election Cycle (Theory)

    A theory developed by Yale Hirsch that states that U.S. stock markets are weakest in the year following the election of a ...
Trading Center