Question

In: Finance

Decide on a recommended Bull Call Spread or Bear Call Spread based on your 1 year...

Decide on a recommended Bull Call Spread or Bear Call Spread based on your 1 year stock price target. Calculate the expected outcome in 1 year assuming the stock attains your 1 year price target. Use 100 contracts for your option quantities.

Required Information:

Intrinsic Value = $323.52

Current Stock Price = $262.33

1 Year Stock Price Target = $327.62

Expert Solution

The basic idea behind the Bull call spread is that investor believes that the price of the stock will increase in future. So he will buy a in the money call and at the same time will sell out of money call on same underlying stock with the same expiry date to reduce the total cost

In this example, Current price is 262.33 but 1 year price target is 327.62. Also the intrinsic value of the share is also 323.52. So it is clear that the price of the share is going to rise in future. So recommedation will be of BULL CALL SPREAD.

Lets assume:

Stirke price for in the money call option = 250

Current price = 262.33

In the money call option premium = 18

Stirke price for out the money call option = 300

Out the money call option premium = 5

After 1 year, if stock achieve price target of 327.62:

From 250 to 300 :

Value will be = 50 - 18 + 5 = 37

From 300 to 327.62

No Profit since out of money call will trade off with in the money call.

So total profit will be 37 per contract

Total number of contracts = 100

Total profit = $3700

jeff jeffy answered 2 years ago

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