Imagine that you are holding 6,100 shares of stock Imagine that you are holding
ID: 2795143 • Letter: I
Question
Imagine that you are holding 6,100 shares of stock
Imagine that you are holding 6,100 shares of stock, currently selling at $80 per share. You are ready to sell the shares but would prefer to put off the sale until next year due to tax reasons. If you continue to hold the shares until January, however, you face the risk that the stock will drop in value before year-end. You decide to use a collar to limit downside risk without laying out a good deal of additional funds. January call options with a strike price of $85 are selling at $3, and January puts with a strike price of $75 are selling at $5. What will be the value of your portfolio in January (net of the proceeds from the options) if the stock price ends up at $71, $80, $91? What will the value of your portfolio be if you simply continued to hold the shares? Stock Price $91 Portfolio Value If collar is used If you continued to hold the shares S71 $80Explanation / Answer
If Price is $71:
The collar involves purchasing a put for $5 and selling a call for $3. So the initial outlay is $2
Value at expiration: Value of call + Value of Put + Value of stock
Value at expiration: 0 + (75 - 71) + 71 = $75
For 6,100 shares net proceeds will be:
(75 - 2) x 6,100 = $445,300
Net proceeds without using collar = $71 x 6,100 = $433,100
If Price is $80:
The collar involves purchasing a put for $5 and selling a call for $3. So the initial outlay is $2
Value at expiration: Value of call + Value of Put + Value of stock
Value at expiration: 0 + 0 + 80 = $80
For 6,100 shares net proceeds will be:
(80 - 2) x 6,100 = $475,800
Net proceeds without using collar = $80 x 6,100 = $488,000
If Price is $91:
The collar involves purchasing a put for $5 and selling a call for $3. So the initial outlay is $2
Value at expiration: Value of call + Value of Put + Value of stock
Value at expiration: (85 -91) + 0 + 91 = $85
For 6,100 shares net proceeds will be:
(85 - 2) x 6,100 = $506,300
Net proceeds without using collar = $91 x 6,100 = $555,100