Suppose an investor buys a call option on 45,000 barrels of oil with an exercise price...

Suppose an investor buys a call option on 45,000 barrels of oil with an exercise price of $51 per barrel and simultaneously sells a put option on 45,000 barrels of oil with the same exercise price of $51 per barrel. Her net payoff per barrel on these option contracts is _____ if the market price per barrel is $49 and _____ if the price per barrel is $55.

Expert Solution

If the market price is $ 49 her net payoff per barrel will be as shown below:

Investor will not exercise the call option since the market price is lower than the exercise price. (Since in call option buying investor gains when market price is greater than exercise price)

He will not have a right to exercise the put option or not since he is a put option seller and hence the loss incurred is $ 2 per barrel. (Since in put option selling investor gains when market price is greater than exercise price)

Hence the net pay off per barrel is - $ 2.

If the market price is $ 55 her net payoff per barrel will be as shown below:

Investor will exercise the call option since the market price is higher than the exercise price. (Since in call option buying investor gains when market price is greater than exercise price). Hence he has gained $ 55 - $ 51 = $ 4 per barrel

Investor will earn $ 4 per per barrel. (Since in put option selling investor gains when market price is greater than exercise price)

Hence the net pay off per barrel is $ 8.

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jeff jeffy answered 8 hours ago

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