Risk reversal vs collar: same two strikes, opposite jobs
A collar and a risk reversal use a put and a call at two strikes, often for zero cost. A collar sits on shares you own and shrinks their risk. A risk reversal has no shares and builds a new bet that loses like owning the stock below the put.
The short answer
A Collar is a hedge. You own 100 shares, buy a put below and sell a call above. Your losses and gains both get smaller.
A risk reversal, in stock options, is a bet. You own no shares. You sell a put below and buy a call above. Below the put strike you lose like a shareholder. Above the call strike you gain like one. In between, nothing happens.
Look closely and the collar's two options are the risk reversal flipped: long put and short call instead of short put and long call. Same two strikes, opposite jobs. A zero cost on either trade does not mean zero risk.
Three things people mean by "risk reversal"
The term gets used three ways, and most pages mix them up.
| Meaning | What it is | Who uses it |
|---|---|---|
| Bullish risk reversal | Sell a put, buy a call, no shares | Stock option traders |
| Collar without the stock | Buy a put, sell a call, no shares (a bearish bet) | Stock option traders |
| An FX skew number | The volatility gap between an out-of-the-money call and put | Currency option desks |
The third meaning is a price quote, not a trade you place. It tells you whether the market is paying more for calls or for puts. Volatility skew vs smile explains why puts usually cost more. This page is about the first meaning, next to the collar.
Side by side
| Collar | Risk reversal (bullish) | |
|---|---|---|
| Shares | You own 100 | None |
| Put | Bought | Sold |
| Call | Sold | Bought |
| Job | Shrinks risk on shares | Builds a new bullish position |
| Below the put | Floor holds | Loses like owning 100 shares |
| Above the call | Capped | Gains like owning 100 shares |
| Between the strikes | Moves with the shares | Flat |
| Cash needed | The shares | Margin or cash for the short put |
| Approval | Low level | Higher level at most brokers |
A worked example (hypothetical)
Pine Hollow Foods, a made-up stock, trades at $50. A 90-day $45 put and a 90-day $55 call both cost $1.50. So both trades below cost $0.
- Collar: own 100 shares at $50, buy the $45 put, sell the $55 call.
- Risk reversal: own nothing, sell the $45 put, buy the $55 call.
- Plain shares: own 100 shares at $50, no options. For comparison.
| Pine Hollow at expiry | Collar | Risk reversal | Plain shares |
|---|---|---|---|
| $35 | −$500 | −$1,000 | −$1,500 |
| $45 | −$500 | $0 | −$500 |
| $50 | $0 | $0 | $0 |
| $55 | +$500 | $0 | +$500 |
| $65 | +$500 | +$1,000 | +$1,500 |
Check the $35 row. Collar: shares −$1,500, the put you own is worth +$1,000, so −$500. Risk reversal: the put you sold is worth $10 against you, −$1,000, and the call expires. Shares alone: −$1,500.
The drop that catches risk reversal traders
Below $45, the risk reversal falls $100 for every $1 the stock drops. That is exactly what owning 100 shares bought at $45 does. At $35 you are down $1,000. At $25, $2,000. If Pine Hollow went to zero, $4,500.
The trade looked like it cost nothing. What it really did was promise to buy 100 shares at $45. If you'd be happy owning Pine Hollow at $45, that promise is fine; it's a Cash-secured put with a call bolted on. If you only wanted the call, you took on the stock's downside to avoid paying for it.
The collar, on the same two strikes, never loses more than $500. It is the same idea pointed at protection instead of exposure.
A risk reversal is close to a Synthetic long with a gap in the middle. Synthetic long stock vs buying the stock shows what happens when the two strikes meet.
Adding shares to a risk reversal
What if you hold 100 shares and put on a bullish risk reversal? You don't get a hedge. You get double the bet: below $45 you lose $200 for every $1 drop, and above $55 you gain $200 for every $1 rise. Some people do this by mistake, thinking "zero cost" means "protection." The collar is the version built for shares you own.
Pick a collar if… pick a risk reversal if…
| Pick a collar if… | Pick a risk reversal if… |
|---|---|
| You own the shares and want less risk | You don't own the shares and want upside |
| You'd accept a cap on gains | You'd gladly own the stock at the put strike |
| You want a known worst case | You can carry a stock-sized worst case |
| You have low options approval | You have margin and a higher approval level |
For more on the collar's cost, read protective put vs collar and put spread collar vs collar. Every strategy's max loss is in one table in the options strategy comparison chart.
In Canada, a collar on shares you own is widely allowed in a TFSA or RRSP. A risk reversal's short put needs cash set aside or margin, and whether that's allowed depends on the broker.
Questions
If a risk reversal costs nothing, where is the risk?
In the put you sold. Below that strike you lose like owning 100 shares, all the way to zero.
Is a collar a risk reversal?
The collar's two options, without the shares, are a bearish risk reversal. Add 100 shares and it becomes a hedge.
What does "risk reversal" mean in forex?
On a currency options desk it's a number: the volatility gap between an out-of-the-money call and put. It shows which side the market is paying more for.
Why do people use a risk reversal instead of buying a call?
The sold put pays for the call. The price is taking on the stock's downside below the put strike.
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