Question

Graph the profit/loss for the following options positions.

Long at-the-money call with strike 40 and premium 2;

Short at-the-money put with strike 40 and premium 2

Combination of the long call and short put, both with strike=40 and premium=2

Long straddle: buy call and put both with strike 40 and premium 3

Short straddle: sell call and put, both with strike 40 and premium 3

Answer 1

Profit is calculated after deducting cost from value.

Value of option includes 2 components - Time value and Intrinsic Value. At expiration only intrinsic value will be there as there wont be any time value.

Value of Call at expiration = Stock Price (S)- Strike Price (X) (Where S> X) or 0 (Where X < equal to S)

Value of Put at expiration = Strike Price (X) - Stock Price (S) (Where X < S) or 0 (Where S>equal to X)

a)

Here we buy a call, hence premium is outflow. We will sell the call at maturity , hence any value is inflow. Net Profit = Value at maturtiy - Premium

b)

Here we sell a put, hence we get premium inflows. We will buy at maturity, hence any value is outflow. Net Profit = Premium - Value at maturity

c)

Here we buy a call, hence premium is outflow. We will sell the call at maturity , hence any value is inflow. Net Profit = Value at maturity - Premium

Here we sell a put, hence we get premium inflows. We will buy at maturity, hence any value is outflow. Net Profit = Premium - Value at maturity

d)

Here we buy a call, hence premium is outflow. We will sell the call at maturity , hence any value is inflow. Net Profit = Value at maturity - Premium

Here we buy a put, hence premium is outflows. We will sell put at maturity, hence any value is inflow. Net Profit = Value at maturity - Premium