Question

Determine the profit table and draw the profit diagram for each of the following portfolios. For what range of values is the portfolio profitable and what is the maximum loss or profit? Assume that all options have a maturity of one year.

a. Long one European put option with strike price K=$90 which costs $6.

b. Long one European call option with strike price K=$100 which costs $4.

c. Long one share and short two European call options with strike price K=$100. The current price of the stock is $95 and the price of one call option is $4.

d. A strangle created from the options in (a) and (b). Superimpose the graph of the strangle on the graphs of the options.

e. When is the strangle in (d) profitable? What is the maximum loss or profit? Why and when would you use this strategy?

Answer 1

a)	Europian put option strike price 90 and cost 6
	hence profit will start only after stock goes below 84
	if stock goes to 0 also then also maximum profit will be 84-0= 84
	however maximum loss is limited to 6 which is the primium paid
B)
	100 strike long calll boutght @ 4
	max loss is 4
	max profit is unlimited thyoritically saying
C)
	Long one share at price 95	$           -95.00
	short two call at strike price 100 @ 4 each	$               8.00
		$           -87.00
	if stock goes down from 95 then calll will be worthless as strike is 100 (which is more then 95)
	break even point is 87 in down side
	in other words we can say that investor would proit if stock expriy price is above 87
	further at higher side call will start lossing only if stock goes above 100
	till 100 opation seller will make 5 (100-95) in stock
	and 8 premium recived in calls
	which is $13
	after 100 change increse of every rupee will make investor lose with one $
	as the gain in one share will be setoff with 1 call '
	however 2nd call loss has to be delt by investor
	hence bep will be 13+100=113 in higher side
	it means customer will lose if stock goes above 113
D)
	Strangle investor buys call and put both samultniously
	buy put of 90 strike @ 6	-6
	buy calll 100 strike @ 4	-4
		-10
E)
	when trader thinks that their will be a volatile move in the market
	however he is not sure about the direction of the move
	he can use strangle
	in the above expmple strangle made with 90 and 100 strikes
	with cost of $ 10
	hence in lower side if stock goes below $80 (90-10)
	or Stock goes above 110(100+10)
	then only trader makes profit