A put option gives its buyer the right but not the obligation to sell an asset at an agreed price (the strike price) within a fixed timeframe. The asset might be a stock, commodity or bond, for example.
The person who writes the option is legally obliged to buy the underlying asset (for example shares, if the option is a stock option) from the option buyer.
An auto insurance policy can behave like a put option:
You buy a policy for a premium and collect the insurance value if you wreck your car. If you do not wreck your car, you are out the amount only of the premium. Likewise, you can buy a put option for a premium and turn it back to the insurer (the put seller) if your stock should crash (fall below the strike price). If the stock stays above the strike, you would let the “insurance” expire and lose only the premium you paid.
Bill Johnson with James DiGeorgia and David Nichols, An Investor’s Guide to Understanding and Mastering Options Trading
Put options are profitable for the buyer when the underlying asset’s price falls to the strike price or below.
When the price of the underlying asset is lower than strike price, the option is in-the-money.
Buyers of options can lose no more than the price they pay for the option. Their gains are potentially very high.
If the asset’s price falls, but not sufficiently far to reach the strike price, the option holder might still be able to sell it on profitably to another trader, provided that trader sees a potential profit in the time remaining before the option expires.
Put options are sold (written) by people who believe the price of the underlying asset is unlikely to fall.
The writer sells the put for a sum of money called the premium.
Warren Buffett’s Naked Put Option Strategy to Invest in Coca-Cola
In April 1993, with Coca Cola stock hovering around $39 per share (before splits), Buffett valued the company and determined that he would be interested in buying some more shares if the price fell below $35.
He wrote 5 million put options with a $35 strike price.
If Coke stock fell below $35, the option takers would “put” their shares to him, Buffett would be forced to buy at $35. This was perfectly fine for Buffett because he wanted to buy at that price anyway. If Coke rose instead Buffett would be happy enough, he collected a $1.50 option premium ($7.5 million) even if the stock never fell to his target. Being a strict value investor he would not have been interested in buying Coke at more than $35 so therefore the fact that it went up without him buying it was perfectly fine by him.