Question

What is the payoff to a short forward position if the forward price is $60 and the underlying stock price at expiration is $73? What would be the payoff to a purchased put option with a strike price of $60 on the same underlying stock expiring at the same time?

Answer 1

Forward positions (both long and short) are contractual obligations. You would have to honour them.

Now, when you take a short position for forward price of $60, you are contractually bound to sell the stock at $60 at the contract maturity. So, when the underlying is priced at $73, you are at a loss (you could have sold that underlying in market for $73, but now due to forward contract you have to sell it at $60). Hence, the payoff = - $13 (Loss Position).

Now, put option is not a contractual obligation for buyer. If you buy a put option, you have an option to sell the stock within the defined interval and at a specific price. Over here, when you purchase a put option, for exercise price of $60, you would have ideally wanted to have the stock price fall below $60, in order to generate profits (since you could have sold stock at $60, even when market price was less than $60). But, since the current price is $73, which is higher than the exercise price of $60, he would have no profit no loss (which is still a better position, when compared to forward position above).