Use the following option prices for options on a stock index that pays no dividends to...

Use the following option prices for options on a stock index that pays no dividends to answer question. The options have three months to expiration, and the index value is currently 1,000.

STRIKE (K)	CALL PRICE	PUT PRICE
975	77.716	43.015
1000	64.595	X
1025	53.115	67.916

a. An investor buys a 975-strike call and sells a 1025-strike call. What is the name  of this position and what are the minimum and maximum profits (or losses) on the position?

b. An investor buys the index, buys a 975-strike put and sells a 1025-strike call. What  is the maximum profit?

c. An investor buys a 975-strike put and a 975-strike call. What is the name of this  position and what is the maximum profit?  

(Please answer with every step)

Expert Solution

a. It is called Bull call spread and used when investors have a bullish view of market.

Minimum payoff = -Call premium of 975 + call premium of 1025 = -77.716+53.115 = -24.601

Maximum Payoff = Difference between strikes-Call premium of 975 + call premium of 1025

=1025-975-77.716+53.115 = 25.399

b. Payoff is at expiry given by = Stock-1000 + Max(975-stock,0)-43.015-Max(stock-1025,0)+53.115

Maximum profit was given above stock price 1025 = 35.1

c. Since both PUT and CALL are for same strike price and same expiry. This strategy is Long Straddle and in this case, profits can be infinite that is there is no upper cap on it

jeff jeffy answered 1 year ago

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