Lesson 13 of 25 · 7 min

A protective put: what it does to the collateral value

The floor is real and the schedule may not see it; both can be true of one position.

Lesson 12 answered what a put does to the outcomes. This lesson answers a completely separate question: what it does to the number the lender computes. The two answers are not the same and they are not even always in the same direction.

Three treatments a lender's schedule can give the identical hedged position:

Unrecognised: the advance rate on the shares is whatever it was, and the put is simply another holding, often at a zero advance rate.
Recognised: the schedule advances against the floor rather than against the market price, usually at a much higher rate because the downside is defined.
Outside the pledge: the put is held somewhere other than the pledged account, so the lender cannot rely on it and treats the shares as unhedged.

Numbers make the spread visible. A pledged holding is 15,000 shares at $88, so $1,320,000, at a 45 percent advance rate for a single name: lending value $594,000. A put struck at $77 costs $5.20 per share, so $78,000, and puts the floor at 15,000 × $77 = $1,155,000. If the schedule recognises the hedge and advances 80 percent against the floor, lending value becomes $1,155,000 × 0.80 = $924,000, an increase of $330,000.

If the schedule does not recognise it, lending value stays at $594,000 and the $78,000 premium has to come from somewhere. Drawn on the line, it raises the balance from $400,000 to $478,000, so loan to value moves from $400,000 ÷ $594,000 = 67.3 percent to $478,000 ÷ $594,000 = 80.5 percent. The downside was cut and the headroom shrank, in the same transaction.

Whether a hedge helps your collateral is not a fact about the hedge. It is a fact about the schedule, the location of the contract, and where the premium came from.

Key terms

Recognised hedge: A hedge a lender's schedule prices, usually by lending against the floor instead of the market price.
Unrecognised hedge: A hedge that changes your outcomes and changes nothing in the lender's calculation.
Premium source: Where the cash for the option came from. Drawn on the line, it raises the balance; paid from outside, it does not.

Worked example

One hedged holding, two lending values

15,000 shares at $88, so $1,320,000, at a 45% single-name advance rate. Put struck at $77 costing $5.20 per share. Balance before the hedge $400,000. Illustrative schedule.

Lending value before the hedge: $594,000
Premium: $78,000
Floor value: $1,155,000
Recognised: lending value against the floor at 80%: $924,000
Unrecognised, premium drawn on the line: loan to value: 80.5%

The identical contract added $330,000 of collateral under one schedule and removed 13.2 points of headroom under another.

Check yourself

A pledged holding of 9,400 shares at $115 carries a 40% advance rate. A put struck at $100 is recognised, and the schedule advances 78% against the floor. How much does lending value change?

Saved in this browser only. No account, nothing sent anywhere.

Educational only. Nothing in this lesson is investment, legal or tax advice, or a recommendation to enter into any transaction. Figures are illustrative and computed from the inputs stated in the lesson.