Buying Protective Puts the Right Way: When Structure Says Stay, Not Sell

Buying Protective Puts the Right Way: When Structure Says Stay, Not Sell

NOTE: I posted the requested June 5 commentary about donchian stops, here on our Facebook page: https://www.facebook.com/groups/862341899288734

When the market starts to dip, the natural instinct is to sell and protect what you’ve built—but that’s not always the only or best move. There are some times when it actually might make sense to hold your long positions in a decline, especially if you have the right strategy in place. Besides using stop losses to manage risk, here are a few solid reasons why staying in the trade might serve you better:

• Strong Long-Term Cycle Support: If the longer-term cycle remains firmly bullish, a deeper dip might just be a shakeout—not a trend change. Selling into weakness can mean missing the early part of the next leg up.

• Tax Considerations: Selling appreciated positions can trigger capital gains taxes. For many, it’s smarter to hedge the downside than liquidate and reset the tax clock.

• High-Conviction Core Holdings: Positions like SPY, QQQ, or quality stocks may be part of your core allocation. If the long-term thesis is intact, short-term noise might not justify an exit.

• Expecting a Quick Rebound: If you believe the recovery will come fast, riding through short-term volatility can make more sense than trying to time a perfect reentry.

• Yield or Dividend Income: If the position pays a solid dividend, holding through a dip, while hedging the downside, can preserve both your shares and your income stream.

When you’re sitting on gains—especially in a high-priced ETF like SPY—you won't need to guess when the top is in, you'll just need to manage the risk. Below are three semi-practical strategies to protect long exposure, using SPY’s June 9 close of $599.68. The option pricing below is theoretical but reflects current ranges.

To explore how relative performance can also shape decision-making when comparing major asset classes, check our post on Gold vs. S&P 500: Let Price and Timing Decide, Not Long-Term Bias.

1. Buy Out-of-the-Money (OTM) Protective Puts – Simple, Defined Risk

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Think of this as portfolio insurance. You pay a premium upfront, and in return, you lock in a worst-case exit price.

How it works:You own 100 shares of SPY at $599.68. To protect against a sudden drop, you buy a put option with a lower strike—something 5–10% below the current price.

Examples:

• $580 Put (Aug 15, 2025): Potential costs around $8.50 per share, or $850 total. This limits your downside to $580 minus the premium.

• $560 Put: Cheaper at around $4.25 ($425 total), but only kicks in if SPY drops sharply. 

When to use it:

If you want protection without changing your position. You’re still long, but now there’s a floor under your trade.

2. Use a Collar – Protection Without the Full Cost

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A collar pairs a protective put with a covered call. You buy the put for downside insurance and sell a call to help pay for it. The tradeoff: capped upside.

Example:

• Buy $580 Put (Aug 15): Costs $8.50

• Sell $620 Call (Aug 15): Brings in about $7.00

Net cost: $1.50 per share ($150 total), instead of $850 for the put alone.

What you get:

• The downside is protected below $580.

• The upside is capped at $620 (if SPY rallies hard, your shares will be called away).​

When to use it:

When you’re short-term cautious, and fine with limiting your upside in exchange for lower or even zero-cost protection. This is helpful if you expect the market to chop or stall near current levels.

For more on this strategy, check our post on How to Use the Collar Option Strategy to Manage Risk During Gap Downs.

3. Hedge with SQQQ – Fast, Aggressive Offset

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If SPY rolls over, tech usually takes the brunt of it these days. So instead of shorting or using puts, you can grab SQQQ—a 3x inverse ETF tied to the Nasdaq-100 (QQQ). Current price: $22.27 (as of June 9, 2025)

Example:

You’re long $100,000 worth of SPY and want to hedge 10% of that position. You could buy ~$10,000 of SQQQ.

• If the Nasdaq drops 3%, SQQQ should rise ~9%.

• That ~9% gain on your hedge position helps soften the losses in SPY. 

Why SQQQ?

It’s liquid, aggressive, and doesn’t require options. Great for short-term tactical hedging when volatility is expected to spike.

Caution:

• SQQQ resets daily. Over time, the compounding can drift, especially in choppy markets (contango).

• This is not a long-term hold. It’s a fast hedge, not a foundation. 

In Summary:

• Use OTM puts if you want protection with clean exit levels.

• Use a collar if you want protection on a budget and are willing to accept capped gains.

• Use SQQQ if you want a simple, fast hedge that moves when tech breaks down. 

At the end of the day, the simplest and most effective form of protection for me is still a well-placed stop loss. It’s immediate, automatic, and doesn’t require any additional instruments or complex setups.

Most of the time, you don’t need options or inverse ETFs for protection—you just need the discipline to define your risk in advance and stick to it. Stops keep you in control when emotions can start to run high. 

Layered stops go one step further. A tighter stop, like one set just under the 3/5 crossover, can secure early gains or take partial profits. A deeper stop, under the 4/7 or even longer-term averages, gives the rest of the position room to ride the bigger trend without getting shaken out by noise.

Remember, it’s not about being perfect. It’s about staying in control. And a smart stop strategy helps you do exactly that.

If you’re looking to deepen your understanding of how cycle timing and structure can guide your trading—rather than reacting to news or fear—check our post on How to Swing Trade Using Cycle Timing and Price Structure, Not Emotion.

Author, Steve Swanson