Question

a) An investor looks at market reports and sees you can but Rio Tinto call option over 1000 shares at $8 with a strike price of $88 and a 6 month expiry. After 4 months the physical price goes to $100. What can the investor do to achieve the best outcome? With aid of a diagram identify and quantify the gains/losses of the writer and buyer?
b)Using a diagram, explain how the gains and losses of both the buyers and sellers or futures contracts differ from buyers and sellers of call options.

Answer 1

		BUYER OF CALL:
		Strike Price=$88
		Assume Price at Settlement =S
		Payoff =Max. ((S-88),0)
		Profit =Payoff-$8
		At $100, Payoff =(100-88)=$12
		Profit =$12-$8=$4
		Total Profit =$4000
		WRITER OF CALL:
		Strike Price=$88
		Assume Price at Settlement =S
		The writer will receive $8
		Payoff =Min. ((88-S),0)
		Profit =Payoff+$8
		At $100, Payoff =(88-100)=-$12
		LOSS =-$12+$8=-$4
		Total Loss =$4000
				A	B=A-8	C=B*1000
			Price at Settlement	Payoff for Call Buyer	Profit/(Loss )per share	Total Profit/(Loss)
			$80	$0	($8)	($8,000)
			$82	$0	($8)	($8,000)
			$84	$0	($8)	($8,000)
			$86	$0	($8)	($8,000)
			$88	$0	($8)	($8,000)
			$90	$2	($6)	($6,000)
			$92	$4	($4)	($4,000)
			$94	$6	($2)	($2,000)
			$96	$8	$0	$0
			$98	$10	$2	$2,000
			$100	$12	$4	$4,000
			$102	$14	$6	$6,000
				A	B=A+8	C=B*1000
			Price at Settlement	Payoff for Call Writer	Profit/(Loss )per share	Total Profit/(Loss)
			$80	$0	$8	$8,000
			$82	$0	$8	$8,000
			$84	$0	$8	$8,000
			$86	$0	$8	$8,000
			$88	$0	$8	$8,000
			$90	($2)	$6	$6,000
			$92	($4)	$4	$4,000
			$94	($6)	$2	$2,000
			$96	($8)	$0	$0
			$98	($10)	($2)	($2,000)
			$100	($12)	($4)	($4,000)
			$102	($14)	($6)	($6,000)
									Price at Settlements For Future Buyers: Gain/(Loss) per share=(5-88) At $100 gain =100-88=$12 Total Gain =$12000 For Future Sellers: Gain/(Loss) per share=(88-5) At $100 Loss =88-100= $12 Total Loss =$12000 S A B =A*100 C D =C*100 Profit/(Lo Total Profit/(Lo ss) per Profit/(Los ss) per Total Price at Share for s) for Share for Profit/(Loss Settlement Buyer buyer Seller ) for seller $80 ($8) ($8,000) $8 $8,000 $82 ($6) ($6,000) $6 $6,000 $84 ($4) ($4,000) $4 $4,000 $86 ($2) ($2,000) $2 $2,000 $88 $0 $0 $0 $90 $2,000 ($2) ($2,000) $92 $4 $4,000 ($4) ($4,000) $94 $6 $6,000 ($6) ($6,000) $96 $8 $8,0001 ($8) ($8,000) $98 $10 $10,000 ($10) ($10,000) $100 $12 $12,000 ($12) ($12,000) $102 $14 $14,000 ($14) ($14,000) so Total Profit/(Loss)for CALL buyer $8,000 $6,000 $4,000 $2,000 $0 $20 $40 $60 $80 $100 $120 (52,000, 50 ($4,000) ($6,000) ($8,000) ($10,000) Total Profit/(Loss) for Call Writer $10,000 $8,000 $6,000 $4,000 $2,000 $0 so ($2,000) 520 540 560 580 5100 $120 | ($4,000) ($6,000) ($8,000) Profit/(Loss) for Futures Buyer $20,000 $15,000 $10,000 $5,000 50 $20 $60 $80 $100 $120 ($5,000) ($10,000) oooooooooooooLoco Profit/(Loss) for Seller of futures $10,000 $5,000 $20 $40 $60 $80 $100 $120 ($5,000) ($10,000) ($15,000) ($20,000)