Question

# You have taken a long position in a call option on IBM common stock. The option...

You have taken a long position in a call option on IBM common stock. The option has an exercise price of \$176 and IBM’s stock currently trades at \$180. The option premium is \$5 per contract. (LG 10-4)
How much of the option premium is due to intrinsic value versus time value?
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What is your net profit on the option if IBM’s stock price increases to \$190 at expiration of the option and you exercise the option?
What is your net profit if IBM’s stock price decreases to \$170?

Exercise Price of Long Call - \$ 180

Calculation of Option Premium Due to Intrinsic Value

Intrinsic Value = (Current Price - Exercise Price)

=\$180-\$176

= \$ 4

Time value of option is i.e. =(Call premium - Intrinsic Value)

= \$1 (\$5-\$4)

Net profit on the option if stock price increases to \$190

If the IBM’s stock price increases to 190 \$

Then i would like to exercise the call option and will buy the share at \$176 giving me a Net profit of

= (Share price - Exercise Price) - Call Premium

=(190-176) - 5

= \$ 9

If the IBM’s stock price is 170 \$ then we would not the exercise the call option and will buy it from market at 170\$ and the call option will lapse

There will be No Net profit if IBM’s stock price is 170\$

However the call premium of 5\$ would have been already paid so the cost will be 5\$