Question

In: Finance

You bought 1000 Google Shares for $400 each. You also sold call options on      Google...

You bought 1000 Google Shares for $400 each. You also sold call options on      Google with a strike of $435 for $20.

a)         What is the maximum profit on your position?

b)         What is the profit on your position when the stock hits $440?

c)         Draw the profit/loss diagram for this position clearly marking the max loss and the maximum profit.

Solutions

Expert Solution

a) If the stock price goes up we will have a profit on Stock position, But after 435 we will have a negative payoff from selling a call option, therefore the benefit from stock will be set off by negative payoff from selling call option

Maximum profit = [(435 - Purchase Price of the Stock) + Option Premium collected on selling call option] x Number of Shares

Maximum profit = [35 + 20] x 1000 = 55000

b) Profit on Stock position = 440 - 400 = 40

Negative payoff from selling call = 435 - 440 = -5

Option premium collected on selling call = +20

Profit from the position = (40 - 5 + 20)x1000 = 55000

c)

Stock Stock Call Premium collected on call Profit
345 -55000 0 20000 -35000
350 -50000 0 20000 -30000
355 -45000 0 20000 -25000
360 -40000 0 20000 -20000
365 -35000 0 20000 -15000
370 -30000 0 20000 -10000
375 -25000 0 20000 -5000
380 -20000 0 20000 0
385 -15000 0 20000 5000
390 -10000 0 20000 10000
395 -5000 0 20000 15000
400 0 0 20000 20000
405 5000 0 20000 25000
410 10000 0 20000 30000
415 15000 0 20000 35000
420 20000 0 20000 40000
425 25000 0 20000 45000
430 30000 0 20000 50000
435 35000 0 20000 55000
440 40000 -5000 20000 55000
445 45000 -10000 20000 55000
450 50000 -15000 20000 55000
455 55000 -20000 20000 55000
460 60000 -25000 20000 55000

Maximum loss will occur when the stock price is 0 which is calculated below

Stock Stock Call Premium collected on call loss
0 -400000 0 20000 -380000

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