Question

A strap option strategy is created by purchasing two call options and one put option of the same underlying stock. The options have the same exercise price (E=50) and same expiration date.

a) What is the payoff of the strategy is the stock price is $0?

c) What is the payoff of the strategy is the stock price is $100?

Answer 1

• Call is the right to buy the underlying stock at the exercise price. Call is exercised when the spot price is higher than the exercise price so as to buy at the lower price and sell at the higher price.
• Put is the right to sell the underlying stock at the exercise price. Put is exercised when the spot price is lower than the exercise price so as to sell at the higher price and when the price in the market is lower.

a) When the spot price is 0, the calls wont be exercised and the payoff will be 0 from them but the put will be exercised, and the payoff will be exercise price - spot price. Which is 50-0 = 50

b) When the spot price is 1000, the put wont be exercised and the payoff will be 0 from it but the call will be exercised, and the payoff will be spot price - exercise price. Which is 100-50= 50