Question

. Suppose that a March call option on a stock with a strike price of $ 50 costs $ 2.50 and is held until March. Under what circumstances will the holder of the option make a gain? Under what circumstances will the option be exercised? Draw a diagram showing how the profit on a long position in the option depends on the stock price at the maturity of the option.

Answer 1

Circumstances under which option of the holder will make a gain, when the call option in the March will be exercised when the overall underlying stock value has exceeded (strike price + value of call option)= (50+2.5)=52.50.

When the call option will be exceeding 52.50, it will mean that the additional increment will be given for the call holder at the time of the maturity.

Option will only be exercised when the overall price of security has crossed the strike price and the premium paid, so it will cross 52.5 in order to get exercised, for a gain. One can even exercise it after strike price has been breached and it would be leading to being exercised at a loss if the premium payment has not been realised.