When an investor purchases a put option as a hedge, what is established?

When an investor purchases a put option as a hedge, they are effectively establishing a sale price for the underlying security. A put option gives the holder the right, but not the obligation, to sell a specific number of shares of an underlying asset at a predetermined price (known as the strike price) within a certain timeframe.

By hedging with a put option, the investor protects themselves against a potential decline in the price of the underlying security. If the market price of the security falls below the strike price of the put option, the investor can exercise the option and sell the security at the higher strike price, thus limiting their losses. This mechanism provides a safety net, enabling the investor to set a known minimum sale price for the asset, thereby bolstering their risk management strategy.