Question

1. You forecast that Royal Caribbean (RCL) will decrease below $25 per share by the end of the year. Write options on this forecast. What will need to happen (be specific) for you to keep the premium you received the day you wrote the option. Show all numeric work. Show numerically what will happen if your forecast is incorrect.

Answer 1

Current price is 38 dollars we are assuming the price will fall below 25 now we want to write an option

As we are thinking price will go down we will sell a call option

Let us assume we sold a call option at strike price of 25

We will receive premium around 15

To keep the premium we received while writing the option price at the date of expiry should be less than 25

Let is assume price is 24 now call option expired out of money

Then our profit will be 15(premium received)

If our assumption is wrong let assume price on date of expiry is 35

Then value of call option is 10

So our profit is 15 -10 = 5

If our forecast is wrong call option we wrote will expire in money so profit will be reduced or loss based on expiry price