An investor purchases a call option with an exercise price of $66 for $3.60. The same investor sells a call on the same asset with an exercise price of $71 for $2.40. At expiration, 3 months later, the asset price is $68.75. All other things being equal and given a continuously compounded annual interest rate of 4.2%, what is the profit to the investor?
he will exercise tha call option because exercise price is less than spot price there by he will get a profit of
Pay off =max ( $ 68.75- $66, 0) = $2.75
Profit = $2.75 - premium paid = $2.75 - 3.60 = loss of $ .85
SELLS call option :
in this case the holder of the option will not exercise the option because exercise price is more
Therefore he got a profit as premium that is = $2.40
Net profit = $ 2.40 - .85 = $ 1.55
He has to borrow net of 3.6-2.40 = $1.2
Cost of that borrowing = P*e^rt = $1.2* e^4.2*1/4
=$ .012
Therefore total profit =$1.55=.012
= $ 1.538
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