Page 126 - DCOM510_FINANCIAL_DERIVATIVES

Unit 8: Application of Options

potentially unlimited. For a writer, the payoff is exactly the opposite. His profits are limited to Notes
the options premium; however his losses are potentially unlimited. These non-linear payoffs
are fascinating as they lend themselves to be used to generate various payoffs by using
combinations of options and the underlying. We look here at the six basic payoffs.

Payoff Profile of Buyer of Asset: Long Asset

In this basic position, an investor buys the underlying asset.

Example: Nifty for 2220 sells it at a future date at an unknown price, S . Once it is
t
purchased, the investor is said to be “long” the asset. Figure 8.1 shows the payoff for a long
position on the Nifty.

Figure 8.1: Payoff for investor who went Long Nifty at 2220

The figure 8.1 shows the profits/losses from a long position on the index. The investor bought
the index at 2220. If the index goes up there is a profit else losses.

Payoff Profile for Seller of Asset: Short Asset

In this basic position, an investor shorts the underlying asset.

Example: Nifty for 2220 and buys it back at a future date at an unknown price, St. Once it
is sold, the investor is said to be “short” the asset.
Figure 8.2 shows the payoff for a short position on the Nifty.

Figure 8.2: Payoff for investor who went Short Nifty at 2220

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