Trading Strategies (Butterfly Spread) – Solved Example
LOS: Describe the use and calculate the payoffs of various spread strategies.
Question:
Tabulated below are premiums of various European calls, all having the same underlying and expiration (calculated assuming $r_f=7.80\%$):
Option | Expiry | Strike | Premium |
Call | 6-months | \$30 | \$5.23 |
Call | 6-months | \$33 | \$3.72 |
Call | 6-months | \$36 | \$2.58 |
If you were to create a 6-month, 30-33-36 butterfly spread using put options of strikes \$30, \$33 and \$36, at what final stock price(s) ($𝑆_𝑇$) will the strategy break even? Ignore time value of money in calculating your profit.
A. | At $𝑆_𝑇=35.63$. |
B. | At $𝑆_𝑇=30.37$ and at $𝑆_𝑇=35.63$. |
C. | At $𝑆_𝑇=29.63$ and at $𝑆_𝑇=36.37$. |
D. | At $𝑆_𝑇=36.37$. |