Question

1. You plan to enter into buying a €1M call spread (Bull call spread) with K1 = 1.075 and K2 = 1.125 for 0.02 (= C1 – C2).

Total amount of credit or debit: ____________________ (Credit or Debit?)

Total maximum amount of profit or loss: ____________________ (Profit or Loss?)

Break-even € exchange rate of this spread: ____________________

Answer 1

Answer :

We plan to enter a bull call spread. Buying the lower strike call.

K1 = 1.075 is bought and call of strike of K2 = 1.125 is sold.

(1) It's a net debt spread given is C1 -C2 = 0.2 (differrence between the premiums of two call options)

Net debit = .02*1 million euros = 20000 Euros

(2). Maximum amount of loss would be the premium paid is 20000 Euros

Maximum amount of profit in a bull call spread = K2 - K1 - Premium paid = 1.125 - 1.075 - .02 * = .03 i.e 30000 Euros

(3) Breakeven exchange rate would be when the lower strike is ITM by the premium amount paid i.e 1.075 + .02 = 1.095

Breakeven exchange rate is 1.095