37 lines
2.4 KiB
Plaintext
37 lines
2.4 KiB
Plaintext
Otapter 6: Ratio Call Writing 147
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would be offset by a 12-point gain on the calls. As with any strategy in which calls are
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sold, the maximum profit occurs at the striking price of the written calls at expiration.
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In this example, if XYZ were at 50 at expiration, the calls would still expire worthless
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for a 12-point gain and the writer would have a 1-point profit on his stock, which has
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moved up from 49 to 50, for a total gain of 13 points. This position therefore has
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ample downside protection and a relatively large potential profit. Should XYZ rise
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above 50 by expiration, the profit will decrease and eventually become a loss if the
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stock rises too far. To see this, suppose XYZ is at 63 at October expiration. The calls
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will be at 13 points each, representing a 7-point loss on each call, because they were
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originally sold for 6 points apiece. However, there would be a 14-poirit gain on the
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stock, which has risen from 49 to 63. The overall net is a break-even situation at 63 -
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a 14-point gain on the stock offset by 14 points ofloss on the options (7 points each).
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Table 6-1 and Figure 6-1 summarize the profit and loss potential of this example at
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October expiration. The shape of the graph resembles a roof with its peak located at
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the striking price of the written calls, or 50. It is obvious that the position has both
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large upside risk above 63 and large downside risk below 37. Therefore, it is imper
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ative that the ratio writer plan to take follow-up action if the stock should move out
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side these prices. Follow-up action is discussed later. If the stock remains within the
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range 37 to 63, some profit will result before commission charges. This range
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between the downside break-even point and the upside break-even point is called the
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profit range.
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This example represents essentially a neutral position, because the ratio writer
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will make some profit unless the stock falls by more than 12 points or rises by more
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than 14 points before the expiration of the calls in October. This is frequently an
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attractive type of strategy to adopt because, normally, stocks do not move very far in
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TABLE 6-1.
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Profit and loss at October expiration.
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XYZ Price at Stock Call Profit Total
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Expiration Profit Price on Calls Profit
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30 -$1,900 0 +$1,200 -$ 700
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37 - 1,200 0 + 1,200 0
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45 400 0 + 1,200 + 800
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50 + 100 0 + 1,200 + 1,300
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55 + 600 5 + 200 + 800
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63 + 1,400 13 - 1,400 0
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70 + 2,100 20 - 2,800 - 700 |