Question

The potential gain for a holder of a naked call option on a stock is _________.

Multiple Choice

• equal to the strike price plus the premium

• larger with a higher strike price

• unlimited

• larger with a higher stock price

Answer 1

A naked call option is the short position in a call option without owning the underlying. So if the price goes above the strike price, then we might have to buy from the market at the spot price and sell at the strike price. Therefore the potential loss in unlimited, while potential gain is not.

As as high the price of the stock underlying goes, the loss can increase as we are in the short position. So last two options can be over-ruled.

The option will be exercised only when the spot price is higher than or equal to the strike price so even if the strike price is as large as possible that will be achieved only when the spot >= strike.If the spot>strike then the difference is the loss which reduces the premium amount and net gain so option 2 is also incorrect

However the premium that is paid to the writer upfront is already received therefore the potential gain is limited to the strike price+ premium if spot=strike. Option 1 is correct