Question

3. Bullish Spread An investor implements a Bullish Spread strategy by doing the following: . buys for a 1-month European call at $4 premium with a strike price of $15 . sells for a 1-month European call at $2 premium with a strike price of $20 Draw the profit chart for this strategy. Make sure to indicate the break-even price, maximum possit profit, and minimum possible profit.

Answer 1

E F G H I J K L M N А 1 Bullish Spread 2 Buy: 3 Sell: 4 5 Initial inflow/ (outflow) 1 month call option @$4 with strike price of $15 1 month call option @$2 with strike price of $20 TOTAL PROFIT $ (2.00) Total Profit 7 Share price 8 4.00 Gain/ (loss) on option bought Gain/ (loss) on option sold initial outflow Total Profit (2.00) (2.00) (2.00) (2.00) (2.00) (2.00) 1.00 (2.00) (1.00) 2.00 (2.00) 3.00 (2.00) 1.00 4.00 (2.00) 2.00 5.00 (2.00) 3.00 6.00 (1.00) (2.00) 3.00 7.00 (2.00) (2.00)| 3.00 Minimum possible profit 1.00 Maximum Profit 3.00 Break Even Price 17.00 Share price 13 14 15 16 17 18 19 20 21 (1.00) (2.00) (3.00)

When the price is 13, you will not exercise the option and the other buyer will also not exercise the option. You will start exercising when the price is above $15 and the other buyer will exercise when the price is above $20. You earn profit on each $1 above the strike price of $15 and earn loss on each $1 above the strike price of $20.