The common stock of the Avalon Corporate has been trading in a narrow range arou
ID: 2787083 • Letter: T
Question
The common stock of the Avalon Corporate has been trading in a narrow range around $40 per share for months, and you believe it is going to stay in that range for the next 3 months. You sell a straddle that includes a 3-month put option with an exercise price of $40 and a call with the same expiration date and exercise price. The put sells for $3 and the call sells for $4.
1.) What is the income from selling the straddle?
2.) What is the profit if the stock price is $36 at expiration?
3.) What is the profit if the stock price is $45 at expiration?
4.) What is the profit if the stock price remains $40 at expiration?
Explanation / Answer
1) income from seliing the straddle = 3 + 4 = 7
2) profit if price is 36 = 7 - (40 - 36) = 3
3) profit when price is 45 = 7 - (45 - 40) = 2
4) profit = 7