CFA Level IDerivativesEasy
A portfolio manager enters a long position in a European call option with a strike price of $100 and a premium of $5. At expiration, the underlying asset's price is $108. What is the profit or loss from this position?
- AProfit of $108
- BProfit of $3
- CProfit of $8
- DLoss of $5
Show answer & explanationAnswer & explanation
Correct answer: B. Profit of $3
The payoff from a long call option is the greater of zero or (spot price - strike price). Profit is calculated by subtracting the premium paid from this payoff.
Why the other options are wrong
- A. This is an incorrect calculation and does not represent profit or loss from an option.
- C. This is the payoff, not the profit, as it does not account for the premium paid.
- D. This would be the loss if the option expired out-of-the-money.
Long Call Option Profit
The profit for a long call option is the payoff (Spot Price - Strike Price, if positive) minus the premium paid.
- Payoff = max(0, Spot Price - Strike Price)
- Profit = Payoff - Premium
- Loss is limited to the premium paid if the option expires out-of-the-money
Memory trick: Call to action: Buy low, sell high, but remember the cost!