Portfolio insurance is a financial practice that protects investors from risks associated with investing. It can be done through selling index futures or using put options, and brokerage insurance is also available. However, investing remains risky and requires education and guidance.
The term “portfolio insurance” is used to refer to a number of different financial practices that are designed to insulate investors from the financial risks associated with investing. The concept of portfolio insurance was developed in the late 1970s, and is believed to have played a role in the stock market crash of 1987, the infamous “Black Monday” in which global stock markets crashed. Today, portfolio insurance is much less used.
There are several ways insurers can protect themselves with portfolio insurance. One option is to sell index futures as stock prices fall, while holding onto the stock itself. As prices continue to decline, futures can be bought back at a lower price, generating profits that cut and limit losses. Portfolio insurance can be set up to do this automatically, ensuring quick response when prices are highly volatile.
Another option is to use put options, which give people the right to sell their shares at a specified price. People are not required to exercise put options, but they can if prices are falling and they feel they should unload the stock before the price goes even lower. In a simple example of how put options work, someone could buy at 100 units of whatever currency is being used, with a put option at 90. If the stock price is 200 units or 20 units, the buyer You can choose to sell it at 90 with the put option. Therefore, when prices fall, sellers can exercise the put option to exit the investment with minimal loss.
People may also sometimes refer to brokerage insurance as portfolio insurance. In this case, a brokerage itself is insured against loss, protecting clients from loss when the market is volatile. This specialized insurance product is offered by various financial firms and insurance companies. These companies, in turn, spread the risk of their insurance product across a large pool to limit liability and hopefully avoid taking a loss if a payout is required.
Even with portfolio insurance, investing is risky. The riskier it is, the greater the potential rewards. This can be a problem for new investors who may think they can make easy money and realize they are in trouble only after the market has started to decline. People who are interested in investing should consider taking classes and working with an investment consultant to learn the ropes before branching out on their own.
Smart Asset.
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