Question

On March 2, 2018 you had $31,000 in cash sitting in your brokerage account. Later that day, you bought 100 shares of Netflix for a price of $300 per share (total cost $30,000). You used the remaining $1,000 in your account to buy one “protective put” option contract on Netflix with a strike price of $290, expiring in July 2018, for a premium of $10 per share (the put contract cost you a total of $1,000). At the option expiration, you will close all positions and hold only cash. (Assume no transaction costs such as trading fees or bid-ask spread)

1. What is the least amount of cash you could possibly have at the option expiration?

A) $1,000

B) $28,000

C) $29,000

D) $30,000

E) $31,000

2. Suppose the stock price at option expiration equals $350. How much would you have in cash at the option expiration?

A) $29,000

B) $30,000

C) $34,000

D) $35,000

E) $36,000

Answer 1

1]

Let us say the price of Netflix stock drops to $0.

Value of shares = $0

Value of put option = (option strike price - stock price at expiration) * number of options bought

Value of put option = ($290 - $0) * 100

Value of put option = $29,000

Least amount of cash you could possibly have at the option expiration =  $29,000

2]

Value of shares = stock price at expiration * number of shares bought

Value of shares = $350 * 100 = $35,000

The premium paid for buying the put options is lost, as the options expire worthless (out-of-the-money).

Cash you would have at the option expiration = $35,000