What Is a Collar in Options? The Collar Strategy Explained

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A collar in options is a hedging strategy built on a stock you already own: you buy an out-of-the-money put and sell an out-of-the-money call on the same shares, with the same expiration and the same number of contracts. The put sets a floor under the position, and the call sets a ceiling. The premium from the call pays for some or all of the put. The trade-off is fixed when you open it: losses below the put strike are blocked, and gains above the call strike are given up.

The strategy is also called a hedge wrapper. Some traders call it a risk reversal, although that name more often refers to the options pair on its own, without the stock. Because the payoff is boxed between two strike prices, it is sometimes described as a collar spread.

What a collar is made of

A standard collar on 100 shares has three legs:

1. Long 100 shares of the underlying stock, usually a position that has already gained in value.
2. Long one put with a strike below the current price. If the stock falls, this gives you the right to sell at the put strike. That is the floor.
3. Short one call with a strike above the current price. You collect a premium, and in exchange you take on the obligation to sell your shares at the call strike if the buyer exercises. That is the ceiling.

One equity option contract usually covers 100 shares, so the contract count matches the share count in round lots. Both options normally share an expiration date. If the expirations differ, the position becomes a diagonal structure with a different risk profile.

How a collar works

The typical use case is a holder whose stock has risen, who still expects it to do well over time, and who is worried about a drop in the near term. Selling the shares would lock in the gain but end the exposure, and in a taxable account it could also trigger a realized gain. A protective put alone keeps the upside open, but the premium can be expensive. A collar sits between the two.

Constructing it involves a few choices:

• Put strike: the level of protection. A strike closer to the current price protects more but costs more.
• Call strike: how much upside you keep. A strike closer to the current price brings in more premium but caps gains sooner.
• Expiration: how long the hedge lasts. Longer-dated options carry more time value on both legs.
• Net premium: the call premium minus the put premium. A positive result is a net credit, a negative result is a net debit, and near zero is a zero-cost collar.

Pricing models such as Black-Scholes show why strikes at equal distances from the stock price rarely cost the same. Option premiums depend on implied volatility. In equity markets, OTM puts commonly trade at higher implied volatility than OTM calls the same distance away. Because of this skew, a zero-cost collar often needs the call strike closer to the current price than the put strike.

The best outcome at expiration is the stock finishing at or just below the call strike. You keep every dollar of gain up to the cap, the put expires worthless and the call expires without assignment.

Calculating a collar’s break-even, profit and loss

All figures below are per share, measured from the stock’s purchase price, at expiration, ignoring commissions and dividends. Multiply by 100 for one contract.

Net premium = call premium received − put premium paid

Break-even

• With a net debit: Stock purchase price + net debit
• With a net credit: Stock purchase price − net credit

Maximum profit (stock at or above the call strike)

• With a net debit: Call strike − stock purchase price − net debit
• With a net credit: Call strike − stock purchase price + net credit

Maximum loss (stock at or below the put strike)

• With a net debit: Stock purchase price − put strike + net debit
• With a net credit: Stock purchase price − put strike − net credit

If the put strike sits above your original purchase price, which can happen on a stock that has risen sharply, the “maximum loss” formula comes out negative. That means the collar locks in a minimum gain rather than limiting a loss.

Interpreting the payoff

On a payoff chart, a collar looks like a flattened “S”. It is flat below the put strike, slopes upward between the strikes and is flat again above the call strike. The shape is the same as a bull call spread. This follows from put-call parity: long stock plus a long put behaves like a long call, so long stock plus a long put plus a short call behaves like a long call spread.

Between the strikes, the position’s sensitivity to the stock is lower than that of the shares alone, because the put adds positive delta as the stock falls and the short call removes delta as the stock rises. Time decay works on both legs, partly offsetting.

Example of a collar (hypothetical)

Suppose you bought 100 shares of a stock, ABC, at $80. It now trades at $87. You want to hedge for the next few months, so you:

• Buy one $77 put for $3.00 per share ($300)
• Sell one $97 call for $4.50 per share ($450)

Net premium: $4.50 − $3.00 = $1.50 credit per share, or $150 collected.

Break-even: $80 − $1.50 = $78.50

Maximum profit: $97 − $80 + $1.50 = $18.50 per share, or $1,850

Maximum loss: $80 − $77 − $1.50 = $1.50 per share, or $150

Outcomes at expiration, per share, measured from the $80 purchase price:

Measured from the $87 price on the day the collar went on, the picture differs. At $87, you held an unrealized gain of $7 per share. In the worst case the collar gives back $8.50 of that, finishing at −$1.50 from cost. In the best case it adds $11.50.

How collars are used

Protecting an appreciated position. This is the classic use: keeping a gain safe through a period of uncertainty without selling.

Hedging a concentrated holding. Investors with a large single-stock position, such as company shares received as compensation, use collars to narrow the range of outcomes while keeping ownership.

Approaching a financial goal. When the money will be needed on a known date, preserving most of the value can matter more than extra upside. A collar timed to expire near that date makes the range of outcomes predictable.

Hedging when volatility is high. Elevated implied volatility makes puts expensive, but it also raises call premiums, so the short call covers more of the put’s cost than it would in a calm market. The net cost depends on how both premiums move.

Outside single stocks. The same floor-and-ceiling idea appears elsewhere:

• Interest rate collars: a floating-rate borrower buys an interest rate cap and sells a floor. The borrowing rate is then held between two levels.
• Currency collars: an importer or exporter buys a currency option on one side and sells one on the other to keep an exchange rate within a band.
• Collars on futures: a long futures position can be collared with a long put and a short call on the futures contract. Producers and buyers of commodities use this to bound a price.

Variations

• Put spread collar: instead of a single put, the holder buys a put spread (long one put, short a lower-strike put). This is cheaper, but protection only runs down to the lower strike.
• Call spread collar: instead of a single short call, the holder sells a call spread (short one call, long a higher-strike call). Some upside above the higher strike is restored, at the cost of less premium.
• Fence: a broader term for these three-option risk-reversal structures, typically a long put, a short call and a third option that reshapes one end of the range.
• Short collar: the mirror image for a short stock position. The holder buys an OTM call to cap the loss if the stock rises and sells an OTM put to fund it, giving up profits below the put strike.

Limitations of a collar

• Capped upside. If the stock rallies well past the call strike, you keep nothing beyond it. In the example, a move to $110 still pays only $18.50 per share. A strong bull gives up the very outcome they expect.
• Assignment risk. Most US equity options are American style, so the short call can be exercised before expiration, especially when it is deep in the money and a dividend is approaching. Assignment means your shares are called away at the call strike, which ends the position and may realize a taxable gain.
• Unused insurance. If the stock never falls to the put strike, the put expires worthless. In a debit collar, that cost is a direct drag on returns.
• Gap between the strikes. Protection only begins at the put strike. Losses down to that level are yours, so a put set far below the current price leaves a wide unprotected band.
• Monitoring and costs. A collar has three legs, and adjusting it means trading options with bid-ask spreads and commissions on each change. Hedging a position that rises sharply often means rolling the call, which costs money.
• Limited time. The hedge ends at expiration. Keeping it longer means opening a new collar at whatever premiums exist then.

Collar vs. similar strategies

A covered call earns income but offers almost no protection in a sharp decline, and a protective put keeps the upside but costs the full premium. A collar is the middle ground between them. It is also unrelated to a straddle, which buys a call and a put at the same strike to profit from a large move in either direction. A straddle is a bet on volatility. A collar is a hedge against it.

Adjusting a collar before expiration

A collar does not have to be held to expiration. It can be closed or changed as your view on the stock changes:

• Unwinding: buy back the call and sell the put. This leaves you with the plain stock position.
• Rolling the call up: if the stock approaches the call strike and you want more upside, buy back the current call and sell a higher-strike one. Rolling up usually costs a net debit.
• Rolling the put up: after a rise, sell the current put and buy a higher-strike one to lock in more of the gain.
• Rolling out: close both legs and reopen them at a later expiration to extend the hedge.

Each adjustment is a new trade at current premiums, so it changes the break-even and the maximum profit and loss from the original setup.

The Bottom Line

Collars suit holders of an appreciated or concentrated stock who want to keep ownership while limiting a near-term drop. The cost is a fixed cap on gains, so a strong bull gives up the rally they expect. Strike choice sets how much protection and upside you keep, and every roll or extension is a new trade at current premiums.