Question

Both a call and a put currently are traded on stock XYZ; both have strike prices of $35 and expirations of 6 months.

a. What will be the profit to an investor who buys the call for $5 in the following scenarios for stock prices in 6 months? (i) $40; (ii) $45; (iii) $50; (iv) $55; (v) $60. (Leave no cells blank - be certain to enter "0" wherever required. Negative amounts should be indicated by a minus sign. Round your answers to 1 decimal place.)

b. What will be the profit to an investor who buys the put for $7.5 in the following scenarios for stock prices in 6 months? (i) $40; (ii) $45; (iii) $50; (iv) $55; (v) $60. (Leave no cells blank - be certain to enter "0" wherever required. Negative amounts should be indicated by a minus sign. Round your answers to 1 decimal place.)

Answer 1

Call and put options are derivative contracts. Call is exercised when the price of underlying goes above the strike price, Put is exercised when price of underlying falls below the strike price.

Part a.

Call bought at a strike price of $ 35 and premium paid =$5

call will be exercised if price goes above $35, and profit will start to generate when price goes above $ 40 ( strike price + premium cost).

The scenarios can be explained in the below table;

Particulars	Price-$40	$45	$50	$55	$60
Strike Price	$35	$35	$35	$35	$35
Call exercised	Yes	Yes	Yes	Yes	Yes
Payoff when exercised(Price-Strike Price)	5	10	15	20	25
Premium paid ($)	5	5	5	5	5
Profit (Payoff-Premium) in $	0	5	10	15	20

Part b.

Put bought at a strike price of $ 35 and premium paid =$7.5

Put will be exercised if price goes beow $35, and profit will start to generate when price goes below $ 27.5 ( strike price - premium cost).

The scenarios can be explained in the below table;

Particulars	Price-$40	$45	$50	$55	$60
Strike Price	$35	$35	$35	$35	$35
Put exercised	No	No	No	No	No
Payoff when exercised(Strike Price-Price)	0	0	0	0	0
Premium paid ($)	7.5	7.5	7.5	7.5	7.5
Profit (Payoff-Premium) in $	-7.5	-7.5	-7.5	-7.5	-7.5

In this case as prices are above strike price hence put will not be exercised and will lapse, hence the pay off in all the scenario will be 0 and loss will be equal to the premium paid.