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Derivatives & Risk Management
Notes
Figure 7.6: Profit/Loss at Expiration for Put Bull Spread
7. Straps: If the investor expects that a big price change would occur in the stock price but
feels that there is a relatively greater possibility of increase in price (bullish) then decrease
in price, then the investor would consider the strategy of Straps. A strap consists of a long
position in two calls and one put with the same exercise price (E) and expiration date. The
profit and loss profile under strap is shown in figure 7.7.
Figure 7.7: Profit/Loss at Expiration for Straps
Profit
E
Stock Price
Loss
Self Assessment
State the following are True or False:
1. A short call has unlimited profit potential on the upside.
2. A long put is simply the sale of a put option.
3. Protective Puts are ideal for investors who are very risk averse.
4. Option spread means taking a position in two or more options of the same type (either
calls or puts) on the same underlying asset (share/index).
5. A spread that is designed to profit if the price goes up is called a bear spread.
6. A strap consists of a long position in two calls and one put with the same exercise price (E)
and expiration date.
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