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FRM Part I · FRM Exam Part I · Trading Strategies

A trader sets up a bull put spread: sells a put with strike $70 for $7.50 and buys a put with strike $60 for $3.00. Ignoring discounting, which statement is correct?

Maximum loss is $5.50 and breakeven is $65.50. The spread brings in a $4.50 credit. Worst-case loss is the $10 strike gap minus that credit, and breakeven is the $70 short strike less the credit.

  1. AMaximum loss is $5.50 and breakeven is $65.50Correct
  2. BMaximum loss is $5.50 and breakeven is $64.50
  3. CMaximum loss is $10.00 and breakeven is $65.50
  4. DMaximum loss is $4.50 and breakeven is $64.50

Explanation

Net credit = 7.50 - 3.00 = $4.50. Maximum loss = 10 - 4.50 = $5.50 when the stock is at or below $60. Breakeven: loss on the short put equals the credit, so 70 - S = 4.50 gives S = $65.50. The $64.50 breakeven wrongly adds the credit to a strike.

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