An investor purchases a stock for $53 and a put option for $.65 with a strike pr

Question

An investor purchases a stock for $53 and a put option for $.65 with a strike price of $49. The investor also sells a call option for $.65 with a strike price of $60. What is the maximum profit and loss for this position? (Loss amount should be indicated by a minus sign. Round your answers to 2 decimal places.)

An investor purchases a stock for $53 and a put option for $.65 with a strike price of $49. The investor also sells a call option for $.65 with a strike price of $60. What is the maximum profit and loss for this position? (Loss amount should be indicated by a minus sign. Round your answers to 2 decimal places.)

Explanation / Answer

The question is related to "Zero Cost Collar" option position where the premium paid for put is offset by the premium received for writing the call. The collar helps in limiting the upside and downside potential of the position. It is so because, upside will get limited by the strike price on the call and downside will get limited by the strike price on the put. The formula for calculating maximum profit and maximum loss would be:

Maximum Profit = Strike Price of Call - Purchase Price of Stock

Maximum Loss = Strike Price of Put - Purchase Price of Stock

______________

Using the values provided in the question, we get,

Maximum Profit = $60 - $53 = $7

Maximum Loss = $49 - $53 = -$4

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