Question

Suppose a call option with a strike price of $43 costs $5. Suppose a put option with a strike price of $43 also costs $5. You decide to enter a strip (\/), which has a slope of negative 2 prior to the kink point and positive 1 after the kink point. What is the profit of the strategy if the stock price is 37 at expiration? (required precision: 0.01 +/- 0.01)

Answer 1

Here, Strip having a slope of negative 2 prior to the kink point and positive 1 after the kink point means entered in 02 Put position and 01 Call position.

Strike Price    43
Premium for Call   5
Premium for Put   5

Total Cost to enter in trade = 1*Call Premium + 2 * Put Premium = 5 + 2*5 = 15

Payoff From Call Option @ Maturity = When Maturity price above the strike price i.e. 43 Pay off from call option will be (Maturity Price - 43) If Maturity price is below the strike price option will expire automatically.

Payoff From Put Option @ Maturity = When Maturity price below the strike price i.e. 43 Pay off from call option will be 2*(43 - Maturity Price). If the Maturity price is above the strike price option will expire automatically. { We have multiplied by 02 as 02 No of Put option bought}

Total Pay Off =  Payoff From Call Option @ Maturity + Payoff From Put Option @ Maturity - Total Cost to enter in trade

=  Payoff From Call Option @ Maturity + Payoff From Put Option @ Maturity - 15

Total Profit  of the strategy if the stock price is 37 at expiration =

Payoff From Call Option @ Maturity + Payoff From Put Option @ Maturity - 15

= 0 + 2*(43-37) - 15 = -3

Ans .: There will be loss of $ 3.00 if the stock price is 37 at expiration (Ans)

Excel Calculation :

Pay off Diagram: X-Axis Maturity Price