An insider purchased a stock prior to the IPO for $10 a share. Once public, the stock runs up to $55 a share but the insider cannot sell the stock for a year. Since put and call options exist, the individual decides to construct a collar for protection from a possible decline in the price of the stock. Information concerning the options is as follows:
Strike price Market price
| Strike price | Market price |
Put | $55 | $3.00 |
call | $55 | $3.00 |
a) Describe the position you establish.
b) Verify that the position achieves its objective by determining the profit/loss profile on the collar if the price of the stock rises to $60, remains at $55, or declines to $40.
c) Why does the position work (i.e., why does it achieve its objective)?
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