An investor wants to construct a bear spread using two put options with the same expiration...
An investor wants to construct a bear spread using two put options with the same expiration T. One put has the strike price of $20 and currently sells for $2. The other put has the strike price of $30 and currently sells for $7. Find the range of stock price on T that results in a positive profit for the investor.
Homework Answers
Solution :
In bear put spread we think that the stock price will go down and in this method we buy put option with higher strike price and sell the put option with lower strike price .
We will sell put option of $20 strike price and earn $2 as premium.
We will buy the put option of $30 strike price and pay $7 as premium.
Net investment =$7-$2 = $5
Break even point = Higher strike - net investment = $30 -$5 = $25
Maximum profit = difference between strike - net investment = $30-$20-$5 = $5
The maximum profit will be $5 when stock price will be equal to lower strike price and break even point = $25
Hence range of stock price that will give positive profit = $20 to $25.
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