Question

A customer sells 3 ABC Feb 25 puts at 4 when ABC is at 24. If the contracts are closed out at intrinsic value when ABC is at 19, the customer has a:

A) $600 loss.
B) $200 gain.
C) $600 gain.
D) $200 loss.

Answer 1

The customer has a $600 loss after selling 3 put options and closing them at intrinsic value. They initially received a premium but had to buy back the options at a higher price due to an increase in intrinsic value.

Step-by-step explanation:

The question involves calculating the profit or loss of a customer who sold put options and closed them out at intrinsic value. To solve this, we must understand the mechanics of options trading and how intrinsic value is calculated. When the customer sells 3 ABC Feb 25 puts at $4 each, they receive a premium totaling $4 x 100 shares per contract x 3 contracts = $1,200.

When ABC is at $19, the puts have intrinsic value because the strike price ($25) is higher than the market price ($19). The intrinsic value per contract is ($25 - $19) x 100 = $600. Since the customer sells 3 contracts, the intrinsic value for all contracts is $600 x 3 = $1,800. To close the position, the customer must buy back the puts for their intrinsic value, which costs them $1,800. Their net loss is then $1,800 (cost to close) - $1,200 (premium received) = $600 loss.