Question

Today you are feeling bullish on UPP stock. You decide the best way to play that opinion is to purchase 5 call options that expire in 4 months with a strike price of 70.00. To lower your risk and your cost basis you simultaneously sell 3 call options that also expire in 4 months with a strike price of 77.50. The current stock price is 70.80. The price of the 70-strike call is 5.50 and the price of the 77.50 strike call is 2.40. The current continuously compounded risk free rate is 3% (annual). 3.

a. Calculate your profit/loss if the ending price of one share of UPP stock is 80.00.
b. Calculate your profit/loss if the ending price of one share of UPP stock is 65.00.

Answer 1

a. Total profit = $22.2

b. Total profit = -$20.3 / Loss of $20.3.

Step-by-step explanation:

a) If ending price is $80

Profit of long call = No. of contracts * [max(St - X,0) - premium paid]

Long call profit = 5 * [max(80 - 70,0) - 5.5]

Long call profit = 5 * [10 - 5.5]

Long call profit = $22.5

Profit of short call = No. of contracts * [-max(St - X, 0) + Premium received]

Profit of short call = 3 * [-max(80 - 77.5, 0) + 2.4]

Profit of short call = 3 * [-2.5 + 2.4]

Profit of short call = -$0.3

Total profit = Long call profit - Profit of short call

Total profit = 22.5 - 0.3

Total profit = $22.2

b) If ending price is $65

Profit of long call = No. of contracts * [max(St - X,0) - premium paid]

Profit of long call = 5 * [max(65 - 70, 0) - 5.5]

Profit of long call = 5 * [0 - 5.5]

Profit of long call = -$27.5

Profit of short call = No. of contracts * [-max(St - X, 0) + Premium received]

Profit of short call = 3 * [-max(65 - 77.5, 0) + 2.4]

Profit of short call = 3 * [0 + 2.4]

Profit of short call = $7.2

Total profit = Long call profit - Profit of short call

Total profit = -27.5 + 7.2

Total profit = -$20.3 / Loss of $20.3.