IAI Actuarial Core Principles · Economic Modelling · Binomial option-pricing model
Which statement about European options at expiry is correct?
A long call's maximum loss is the premium paid, because the holder is not obliged to exercise and the payoff is never below zero, while the upside is unlimited.
- AA long put has unlimited potential profit as the share price rises
- BA written call has maximum loss limited to the premium received
- CA long call has maximum loss limited to the premium paidCorrect
- DA written put has unlimited potential loss as the share price rises
- A long call payoff is negative when the share price is below the strike
Explanation
A call holder can simply let the option lapse, so the loss is capped at the premium paid. A written call has unlimited loss; a written put's loss is bounded by the strike less premium; payoffs of long options are never negative.
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