An investor holds a long position in two call options that are currently worth $8 and $3. The respective strike prices are $55 and $65. He also holds a short position on two call options worth $5 at a strike price of $60. These four options are attached to the same (underlying) security and have the same expiration date.

1. Draw a graph presenting the investor's strategy. (0.5 points)

1. What do you call the strategy followed by the investor. (0.25 points)

1. Construct a table showing the winning profile of this strategy. (1.25 points)

1. For what price levels (or price ranges) of stock would this strategy lead to positive net gains? (0.5 points)

Exercise 4 (2.5 points)

XYZ stock is currently trading for $50 per share. The stock does not pay any dividend. A one-year European call option on XYZ stock with a strike price of $46 is currently trading for $7. The risk-free interest rate is 5%.

The one-year European put option on XYZ stock and strike price of $46 is trading at $1.

1. Is there an arbitrage opportunity? (1.25 points)
2. If yes, determine how to exploit it? (0.75 points)
3. What would be the net gain from this strategy? (0.5 points)

Answer rating: 100% (QA)

Investors Strategy Graph Price of Underlying Security 50 55 60 65 ProfitLoss 10 5 0 5 10 Long Call S... View the full answer