Strangle or bottom vertical combination

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SirEllwood

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Oct 14, 2010
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In the following questions: b=6, c=4, d=5, B0=7000, K1=5 and K2=9

An investor, following this stategy buys a put option with strike price K1 and a call option with strike price K2. Both options are of European type, written on the same stock, and have the same maturity T. Write explicitly the terminal payoff f(x) as a function of the terminal value x=ST and sketch the graph of f. Assume that the investor has paid £(b+c+2) to purchase these two options at time t=0. Find explicitly the net profit N(x), x=ST and sketch its graph. Determine all values of ST for which the investor makes a profit.

I have neve tackled a question like this before, so a walkthrough of it would be extremely useful... dont worry about sketching the graph though :)
 
SirEllwood said:
In the following questions: b=6, c=4, d=5, B0=7000, K1=5 and K2=9

An investor, following this stategy buys a put option with strike price K1 and a call option with strike price K2. Both options are of European type, written on the same stock, and have the same maturity T. Write explicitly the terminal payoff f(x) as a function of the terminal value x=ST and sketch the graph of f. Assume that the investor has paid £(b+c+2) to purchase these two options at time t=0. Find explicitly the net profit N(x), x=ST and sketch its graph. Determine all values of ST for which the investor makes a profit.

I have neve tackled a question like this before, so a walkthrough of it would be extremely useful... dont worry about sketching the graph though :)
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