You have $100 to invest in a stock (or options on the stock). The stock is trading for $100. The three-month 100-strike calls on the stock are trading at $4 each. The minimum stock price you expect to see after three months is $60. What is the worst case return on investment you can possibly end up with using stock and/or options?

Question

Quizplus · Accepted Answer

If you invest in the stock directly and the price drops to $60, you lose $40 on a $100 investment, which is a -40% return. However, if you buy the call option for $4 and the stock price drops below $100, you would let the option expire worthless, losing only the $4 premium paid. This results in a -100% loss on the option investment, but because the option investment was only $4, the actual dollar loss is much smaller compared to investing directly in the stock. The worst case return on investment, considering the options available, is -100% if you choose to invest in the options and they expire worthless.

You Have $100 to Invest in a Stock (Or Options