Tip:
Highlight text to annotate it
X
For the owner of a call option with a $50 strike
price, then the payoff at expiration ... we're talking
about the value of that position. If the stock
is below $50 we wouldn't exercise it, because we
can buy it for cheaper than the option that the
call option is giving us. If the stock goes above
$50 we would exercise our option to buy at $50.
Say the stock is at $60 the underline stock is
at $60 on that date at the expiration date,
then we would exercise our option to buy at $50
and sell at $60 and make $10.
We would essentially get this upside above $50
on the stock. If we think about ... this is the
actual value of the position, if we want to
factor in how much we paid for the option,
we would shift this down by $10. As the
holder we would pay $10 for that. It would look
this this. We would essentially ... if we don't
exercise the option we loose the amount of money
that was a loss that we have to pay for the
option. Then above that we break even at $60
dollars, and then we make money above that.
At $60 the value of our option is $10, but
we paid $10 for it. That's our break even,
but then we make money after that.
This is from the perspective of the holder.
This is from the perspective of the holder of
the call option. This is the holder of the call
option. What would it look like if you're the
writer of the call option?
If your the person selling the right to buy the stock.
If this person right over here, if the holder
has the right to buy at $50, someone must be
selling them that right. Someone must be agreeing
to say hey I will essentially sell that to you
at that price.
If you're the writer of the foot ... we have
the holder in green. The holder in green.
What if you're the writer? You're essentially
the counter party on that option. You're the
person agreeing to uphold that option.
If the option never gets exercised, then the
writer doesn't have to loose any money.
If the option does get exercise, then all of a
sudden, the writer starts to loose money.
If the writer doesn't own the stock, and let's
say the stock is at $60, this guy, the holder,
can exercise his option to buy at $50. The writer
would then have to go buy the stock on the market
for $60 and sell it for $50. They would loose $10.
The writers payoff would look something like this.
Once again it's the mirror image of the payoff
of the holder. If you think about the profit of
the writer, if the option is never exercised,
then the holder gets to keep the $10 that they
were paid ... that they sold the right for.
If the option is exercised, and they start to
loose money, and their break even once again
is at $60. Anything below that, then they start
to loose more and more money. Once again these
are the mirror images of each other.
If you were to add up these two line it would
be break even. These parties are the ones who
are exchanging money between. If this guys
makes $10 this guys loosing $10 or vice versa.