Question

Examine the image representing a straddle position. The image represents the value of 10 June call options and 10 June put options all with a strike price of $75. The investor paid $9590 to establish this position and it is currently valued at $9145. The stock MDT is currently trading at about $72 per share. The Identify three distinct changes that could move this derivative position from an unrealized loss to an unrealized gain

Answer 1

Strategy explained in this given qustion is long straddle strategy where we buy same amount of both call and put of same strike price, same underlying and same expiration in this strategy loss is limited to the total premium we paid for both of these for this qustion it is(TP) $ 9570

Profit potential in this strategy is unlimited it is given by

If underlying price(St) > call strike price(Kc)

Put lapses and call payoff = (St- Kc)×m×C

Where m= lot size and C = no of contracts which is 10 in our question

Profit = (St -Kc)mC -TP

If St< put strike price (Kp)

Call lapses and

Put payoff =( Kp- St)mC

Profit = (Kp- St )mC-TP

As we can see the current position is $9145 i.e. stock price has moved but not so much that it could cover the total premium so we are standing in loss right now there can be following changes which can make us profit

Let us calculate the calculate the lot size m

Current position = 9145

( Kp - St)mC = 9145

( 75 -72)×m×10=9145

m= 304

1)If this position of $9145 has been made because of upward moment of stock price then breakeven price would be

( St-75)×304×10=9750

St= 78.20

i.e. stock price has to go beyond 78 to make some profit.

2)If it is going down then it has go down by

(75 -St)×304×10= 9750

St =71.79

i.e. stock price needs to go go down beyond $71.79

3) thks change is quite strategy oriented like we change our position according to the market direction if the market is going upwards and we expect it to keep following the trend then put will bcome worth less because it had already lost its intrinsic value and with the time ot will lose its Time value as well so before it happens its better to sell it and same goes with call if the market is following the down trend.