Question

Which has unlimited downside risk, a long or short position in a call option? What about...

Which has unlimited downside risk, a long or short position in a call option? What about a long or short position in a put option? Explain your answer.

Homework Answers

Answer #1

Which has unlimited downside risk, a long or short position in a call option?

Neither a long call option or a short call option has unlimited downside risk.

If the stock price goes down, then the risk in the long call option is limited to the premium paid. And, the short call option pays off if the stock price goes down, hence there is no downside risk in the short position in a call option.

What about a long or short position in a put option?

A long put option pays off if the stock price goes down. There is no downside risk to the long position in a put option.

A short position in the put option has a significant downside risk. If the stock price goes to zero, a short put option loses the maximum amount.

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