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I am supposed to construct a profit and loss diagram for a bullish spread strategy: −1put($X_{1}$) + 1put($X_{2}$) and compare it to the profit and loss diagram for the strategy: −10put ($X_{1}$)+ 10put ($X_{2}$).

So I have made the strategy for the first one which looks similiar like this:enter image description here

But I do not know undesrtand what will be the difference when I made the strategy for −10put ($X_{1}$)+ 10put ($X_{2}$).

Would it be higher and wider or is there something else?

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  • $\begingroup$ What is the difference in the premiums (prices) of the two options please? I assume both options have the same maturity, and the strikes are 45 and 40? $\endgroup$ – Magic is in the chain Dec 22 '19 at 13:42
  • $\begingroup$ @Magicisinthechain I do not know, my task was written like this: Construct a profit and loss diagram for a bullish spread strategy: - 1put (X1) + 1put (X2). Compare it to the profit and loss diagram for the strategy: −10put (X1) +10put (X2). So I just made it for my own numbers. $\endgroup$ – Daniel Dec 22 '19 at 13:57
  • $\begingroup$ ok thanks, i tried to answer with hypothetical data $\endgroup$ – Magic is in the chain Dec 22 '19 at 14:22
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Assume the put option with strike 45 is worth 8 and the put option with 40 is trading at 5. For the bull spread, you sell the 45 strike option and buy the 40 strike option. So your payoff and profit will look as follows (profit=payoff+net premium):

enter image description here

Instead if you sell 10 options of strike 45 and buy 10 options of the other strike, profit graph will just scale by 10:

enter image description here

So you collect the premium difference 10 times and hence your profit in the upper region (stock price above 45) shifts by 10 times, and in the lower region you pay 10 times the difference between the two strikes less premium , i.e., 10 *(5-3); and in the region between the two strikes, the P&L becomes steeper to reflect the leverage.

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  • $\begingroup$ Oh, okay, so it will work in this way. Thank you so much $\endgroup$ – Daniel Dec 22 '19 at 14:26

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