FRM Part I · FRM Exam Part I · Options Markets
An investor owns 1,000 shares of a stock trading at $50 and writes 10 call option contracts (100 shares each) with a strike of $55 for a premium of $2.00 per share. At expiration the stock price is $58. Ignoring transaction costs and the time value of money, what is the investor's total profit on the combined position?
The covered call earns $7,000. Shares are effectively sold at the $55 strike for a $5 gain per share, plus $2 premium per share, giving $7 on 1,000 shares. The extra rise above $55 is surrendered to the call holder.
- A$5,000Correct
- B$7,000
- C$10,000
- D$8,000
Explanation
Stock gain = (58-50)*1,000 = $8,000. The call is exercised: loss on short call = (58-55)*1,000 = $3,000, offset by premium received of $2,000, net short call loss $1,000. Total = 8,000 - 1,000 = $7,000. Check: capped sale at 55 gives gain of 5 per share plus 2 premium = 7 per share = $7,000. So the correct figure is $7,000, not $5,000.
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