Question

can someone explain? The stock price of Lotus is currently $220 and the call option with...

can someone explain?

The stock price of Lotus is currently $220 and the call option with strike price of $220 is $10. A trader purchases 100 shares of Lotus stock and short 1 contract of call options with strike price of $220. As a financial analyst at Citibank, you want to answers the following two questions:
a.         What is the maximum potential loss for the trader?
b.         When the stock price is $240 and the call is exercised, what is the trader’s net profit?

1.

When the stock price is $240 and the call is exercised, the trader’s net profit is $1000

2.

The maximum potential loss for the trader is $23000

3.

The maximum potential loss for the trader is $20,000

4.

When the stock price is $240 and the call is exercised, the trader’s net profit is $1300

5.

The maximum potential loss for the trader is $22000

6.

When the stock price is $240 and the call is exercised, the trader’s net profit is $1200

7.

The maximum potential loss for the trader is $21000

8.

When the stock price is $240 and the call is exercised, the trader’s net profit is $1100

Homework Answers

Answer #1

The maximum loss is computed as follows:

If the stock price will move to 0, then the loss will be as follows:

= (Number of shares x 0 - Number of shares x Purchase price per share) + profit of $ 10 on call x 100 (The seller of a call option will gain if the price moves down, however the maximum profit will be restricted to the amount of premium)

= (100 x 0 - 100 x $ 220) + $ 1,000

= - $ 22,000 + $ 1,000

= - $ 21,000

So, the correct answer is option 7

b. Net profit is computed as follows:

= (Number of shares x stock price of $ 240 - Number of shares x $ 220) + (Strike price - stock price + Premium) x 100

= (100 x $ 240 - 100 x $ 220) + ($ 220 - $ 240 + $ 10) x 100

= $ 2,000 - $ 1,000

= $ 1,000

So, the correct answer is option 1.

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