CHAPTER 20

Thebuyerofacallwillfindherprofitchangingfrom

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Unformatted text preview: t income but exposure to down movements in stock price. 3. While it is true that both the buyer of a call and the seller of a put hope the price will rise, the two positions are not identical. The buyer of a call will find her profit changing from zero and increasing as the stock price rises (see text Figure 20.2), while the seller of a put will find his loss decreasing and then remaining at zero as the stock price rises (see text Figure 20.3). 4. You would buy the American call for $75, exercise the call immediately in order to purchase a share of Pintail stock for $50, and then sell the share of Pintail stock for $200. The net gain is: [$200 – ($75 + $50)] = $75. If the call is a European call, you should buy the call, deposit in the bank an amount equal to the present value of the exercise price, and sell the stock short. This produces a current cash flow equal to: [$200 – $75 – ($50/1 + r))]. At the maturity of the call, the action depends on whether the stock price is greate...
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