Assume that a British pound put option has a premium of $.03 per unit and an...

Assume that a British pound put option has a premium of $.03 per unit and an exercise price of $1.60. The present spot rate is $1.61. The expected future spot rate on the expiration date is $1.52. The option will be exercised on this date, if at all. What is the expected per unit net gain (or loss) resulting from purchasing the put option?

Expert Solution

Solution:
	$0.05 is the expected per unit net gain

Working Notes:
	Put option is valuable when expected expiry spot rate is lower than exercise price

	the expected per unit net gain (or loss) resulting from purchasing the put option will be the difference of exercise price and expected future spot rate and net of premium paid for the put option.


	i.e. Net gain (loss) = exercise price - future expected spot rate - premium paid
	Net gain (loss) = $1.60 - $1.52 -$.03
	Net gain = $0.05 per unit


Notes:	In Put option buyer got the right to sell the underlying at exercise price when price is lower than exercise price, means buyer of put option will received the difference of exercise price & spot price at expiry if lower than exercise price , and buyer is to pay premium 1st at the time of buying the put option.



Please feel free to ask if anything about above solution in comment section of the question.

jeff jeffy answered 2 years ago

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