Question

1. State whether it's possible to initiate the following positions with zero initial cost; consider that option premiums received may offset option premiums paid, and briefly explain why it is or is not possible for each.

a. Bear & Bull Call Spreads.

b. Bear & Bull Put Spreads.

c. Box Spread.

d. Butterfly Spread.

Answer 1

a. Bull Call Spreads - not possible to initiate with zero initial cost because long call is at lower exercise price and short call at higher exercise price. since exercise prices are different, so option premium will also be different. so net position will be more than initial zero cost.

Bear call spreads - not possible to initiate with zero initial cost because short call is at lower exercise price and long call at higher exercise price. since exercise prices are different, so option premium will also be different. so net position will be more than initial zero cost.

b. Bull Put Spreads - not possible to initiate with zero initial cost because long put is at lower exercise price and short put at higher exercise price. since exercise prices are different, so option premium will also be different. so net position will be more than initial zero cost.

Bear Put Spreads - not possible to initiate with zero initial cost because short put is at lower exercise price and long put at higher exercise price. since exercise prices are different, so option premium will also be different. so net position will be more than initial zero cost.

c. Box Spread - It is a combination of a bull and bear spread. so not possible to initiate with zero initial cost.

d. Butterfly Spread - not possible to initiate with zero initial cost because long call is at lower exercise price, one more long call at higher exercise price and 2 short calls at middle exercise price. since exercise prices are different, so option premium will also be different. so net position will be more than initial zero cost.