Question

Assume the same investor decided to purchase a European call option on stock ABC. Further assume that the current price of the stock is $130. The investor paid $10 for the call with the strike price at $155.

(A)If the stock price goes up to $160, what is the payoff to the investor? (B) Further assumes that the investor also decided to sell a European put option on the same underlying with the same strike price of $155 and option cost of $10. What is the payoff to the investor when the stock price moves to $175?

Which of the following combination of answers best capture the payoffs for situations described in A and B?

Answer 1

European option is the option which can be excercised on the expiry date.

European Call Option ( Call option is the right to buy) Current price of the stock = $130

Option premium paid = $10 and Strike price = $155

(A) Stock price goes up to $160, payoff (profit & loss) = ?

When the market price > Strike price, Call buyer will excercise , Net profit = Market price - strike price - option premium

= 160 - 155 -10 = -$5

(There is a loss of $5 but if he had not excercised the option, the loss would have been option premium paid i.e. $10. Please note that call buyer will always excercise the option if the market price > strike price)

(B) European Put option ( Put option is the right to sell) Option premium paid = $10 and Strike price = $155

Payoff ? when stock price is 175

Market price > Strike price, Put buyer will not excercise, His loss is the option premium paid = -$10

(Put buyer will excercise the option only when, Market price < Strike Price)

(If you have any query please post in the comment, I'll reply in the comments)

Which of the following combination of answers best capture the payoffs for situations described in A and B..this seems incomplete.. Please mention the complete line