Call writer payoff diagram | Finance & Capital Markets | Khan Academy


For the owner of a call
option with a $50 strike price, then the payoff at
expiration … we’re talking about the value of that
position. If the stock is below $50 we wouldn’t
exercise it, because we can buy it for cheaper
than the option that the call option is giving us.
If the stock goes above $50 we would exercise
our option to buy at $50. Say the stock is at $60
the underline stock is at $60 on that date at
the expiration date, then we would exercise
our option to buy at $50 and sell at $60 and make $10. We would essentially get
this upside above $50 on the stock. If we think
about … this is the actual value of the
position, if we want to factor in how much we paid for the option, we would shift this down by $10. As the holder we would pay $10
for that. It would look this this. We would
essentially … if we don’t exercise the option we
loose the amount of money that was a loss that
we have to pay for the option. Then above that
we break even at $60 dollars, and then we
make money above that. At $60 the value of our option is $10, but we paid $10 for it. That’s our break even, but then we make money after that. This is from the
perspective of the holder. This is from the
perspective of the holder of the call option. This is
the holder of the call option. What would it
look like if you’re the writer of the call option? If your the person selling
the right to buy the stock. If this person right
over here, if the holder has the right to buy
at $50, someone must be selling them that right.
Someone must be agreeing to say hey I will
essentially sell that to you at that price. If you’re the writer
of the foot … we have the holder in green. The holder in green. What if you’re the
writer? You’re essentially the counter party on
that option. You’re the person agreeing to uphold that option. If the option never
gets exercised, then the writer doesn’t have to loose any money. If the option does get
exercise, then all of a sudden, the writer starts to loose money. If the writer doesn’t
own the stock, and let’s say the stock is at $60,
this guy, the holder, can exercise his option
to buy at $50. The writer would then have to go buy
the stock on the market for $60 and sell it for
$50. They would loose $10. The writers payoff would
look something like this. Once again it’s the
mirror image of the payoff of the holder. If you
think about the profit of the writer, if the option
is never exercised, then the holder gets to
keep the $10 that they were paid … that they
sold the right for. If the option is exercised,
and they start to loose money, and their
break even once again is at $60. Anything below
that, then they start to loose more and more
money. Once again these are the mirror images of each other. If you were to add up
these two line it would be break even. These
parties are the ones who are exchanging money between. If this guys makes $10 this guys
loosing $10 or vice versa.

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