Question

The current price of a stock is $84. A one-month call option with a strike price of $87 currently sells for $2.80. An investor who feels that the price of the stock will increase is trying to decide between two strategies that require the same upfront cost: Buying 100 shares or buying 3,000 call options (30 call option contracts). How high does the stock price have to rise for the option strategy to be more profitable?

Answer 1

ANSWER :

Here Investor has two options

a) Buying 100 Shares. In this scenario the investor has to spend 84 * 100 = $8400 now to purchase shares.

To be profitable for the investor the share price must move above 84$ only then he can make profit

In this case the investor gains 100 * 1 = $ 100 per ever rupee increase in price.

Movement of stock price should be higher than $84 to be profitable

b) Buying Call option with $87 Strike price. In this scenario the investor has to spend $2.8 * 30 * 100 = $8400 for purchasing 30 call optons

To be profitable for the investor the price of the share should be more than $87 at the time of expiry any thing less than that, then the contract gets cancelled.

since investor has already spent $ 2.8 on call option the effective price should be = 87+2.8 = 89.8 only when the price is above 89.8 then the investor gains profit.

Movement of stock price should be higher than $89.8 to be profitable. Of the two options investor will be more profitable when he purchases the shares now

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