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a short stock can be protected by selling a put. Determine the profit equation for this...

a short stock can be protected by selling a put. Determine the profit equation for this position and identify the breakeven stock price and expiration and maximim and minimum profits.

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Answer #1

When an individual short a stock he had exposed himself to unlimited risk as there is no limit of how high a stock price can go.

Protecting it by selling a put will give that individual a limited protection(premium received for short put) against an unlimited risk.

At the same time he had also limited his gain because if the stock price goes below put(strike price) then he will gain in short stock however he will still have to sell it at strike price(due to short put contractual obligation)

Profit Equation:-

a)Profit Equation:-Premium Received-(stock price-strike price)

b)Break-even-Stock Price=Stock Price+Premium

c)Maximum Profit-Premium Received

d)Minimum Profit-Premium Received

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