Question

You buy 100 shares of IBM for $110/share and simultaneously sell a 120 call option (100...

You buy 100 shares of IBM for $110/share and simultaneously sell a 120 call option (100 shares) for $1.25. If IBM is trading at $135, your profits are ______.

need explanation

a. 125

b. 375

c.  2500

d.  1125 correct answer

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Homework Answers

Answer #1

Ans : Call options are the contracts which gives buyer the right (not an obligation) to buy the underlying security at the strike price.

Since Call option has strike price of $120 and  the IBM Stock is trading at $135, thus the option will be exercised. The seller of the call option will have to sell the shares at $120

Computaion of Profits

Price at which shares of IBM are purchased = $110 per share
Selling price since option will be exercised = $120 per share
Also, the seller of the option will receive the premium on Call option sold.

Premium = $1.25 * 100 shares = $125


Profit = ( Selling Price - Purchase price ) * no. of shares + Premium
= (120 - 110) * 100 + 125
Profit = $1,000 + $125 = $1,125

Ans: Profits will be $1,125



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