What Is a Collar Strategy?
A collar strategy (also called a protective collar or covered call collar) combines three positions: long stock, a covered call (short call), and a protective put (long put). The covered call generates premium income that partially or fully funds the protective put, while the put provides a floor on your downside risk. The result is a position with defined maximum profit (capped at the call strike) and defined maximum loss (limited by the put strike), creating a predictable risk-reward band for your stock investment.
Collars are particularly popular among investors who have significant unrealized gains on a stock position and want to protect those gains without selling. By adding a collar, you lock in a minimum sale price (put strike) while agreeing to a maximum sale price (call strike). The premium from the call sale offsets the cost of the put purchase, making the protection cheap or even free (zero-cost collar). This strategy is widely used in corporate finance, estate planning, and portfolio risk management.
A zero-cost collar occurs when the call premium exactly offsets the put cost. For example, selling a $110 call for $3.00 and buying a $90 put for $3.00 creates a collar with zero net cost. Your stock is protected below $90 and capped above $110, with no premium outlay.
Collar Strategy Economics
- 1Net premium = $3.00 - $2.00 = $1.00 credit per share
- 2Max profit = ($110 - $95 + $1.00) × 200 = $3,200
- 3Max loss = ($95 - $90 - $1.00) × 200 = $800
- 4Breakeven = $95 - $1.00 = $94.00
- 5If stock drops to $80: loss capped at $800 (put protects below $90)
- 6If stock rises to $120: profit capped at $3,200 (call caps at $110)
- 7Risk-reward ratio = $3,200 / $800 = 4:1
Collar Configuration Options
| Collar Type | Call Strike | Put Strike | Net Cost | Max Profit | Max Loss |
|---|---|---|---|---|---|
| Tight collar | $105 | $95 | ~$0 | $1,000 | $500 |
| Standard collar | $110 | $90 | ~$1 credit | $1,600 | $400 |
| Wide collar | $115 | $85 | ~$2 credit | $2,200 | $800 |
| Zero-cost collar | $108 | $92 | $0 | $1,300 | $300 |
| Protective collar | $112 | $95 | ~$1 debit | $1,600 | $100 |
When to Use a Collar Strategy
Collar Decision Framework
- Collars are one of the lowest-risk options strategies available
- Zero-cost collars provide free protection funded by the covered call
- Commonly used for concentrated stock positions in executive compensation
- Both the call and put should have the same expiration date
- Collars can be adjusted by rolling either leg independently
- Tax implications: collar may affect holding period for long-term gains (IRS straddle rules)
The IRS may treat a collar as a straddle, which can suspend the holding period for long-term capital gains on the underlying stock. This is especially relevant for collars with tight put-call distances. Consult a tax advisor before implementing collars on positions with significant unrealized gains.