Question

Brittney buys a call with strike $85 and sells a call with strike $110 on Dow Jones. The $85 strike call costs $10 while the $110 strike costs $8. Brittney's maximum profit on this strategy is

		Infinity
		$25
		$23
		$27

Answer 1

OPTION B $23 is correct

Net Outflow on Strategy

Buy 85 Strike Call = -10

Sell 110 Strike Call = +8

Net Outflow (Cost of strategy) = 2

From the 85 Strike call option we will receive a positive payoff when the strike price is above 85, but if the strike price is above 110, positive payoff from 85 strike call will be set off by 110 strike call (which we have sold)

Therefore we will have the maximum payoff from the strategy at 110 and above

Stock Price	Payoff From 85 Call	Payoff From 110 Call	Total Payoff	Cost of Strategy	Profit
70	0	0	0	2	-2
75	0	0	0	2	-2
80	0	0	0	2	-2
85	0	0	0	2	-2
90	5	0	5	2	3
95	10	0	10	2	8
100	15	0	15	2	13
105	20	0	20	2	18
110	25	0	25	2	23
115	30	-5	25	2	23
120	35	-10	25	2	23
125	40	-15	25	2	23
130	45	-20	25	2	23
135	50	-25	25	2	23
140	55	-30	25	2	23

Therefore Maximum Profit from the strategy is 23 as shown in the diagram