AstraZeneca plc (AZN) stock was trading at $45 in AUG and the following options

Question

AstraZeneca plc (AZN) stock was trading at $45 in AUG and the following options prices are available:

SEPT 40 put - $1.50

SEPT 50 call - $1

Consider a short strangle using AZN by selling one SEPT 40 put and one SEPT 50 call. Answer the following questions.

A) What is the maximum profit you would expect from the strangle?

B) What are the two break-even prices for AZN on expiration?

C) What is the maximum loss you might experience from the strangle?

D) The stock price declined to $39 on the expiration. What is the amount of profit or loss from the short strangle?

Explanation / Answer

Short Strangle Strategy typically involves selling an out-of-the money call option and an out-of-the-money put option with the same expiration date. Traders implement this strategy when the believe a stock will remain in a specific range.

A) We have current stock price : $45

Short strangle setup: Sell 40 put for $1.50 and Sell 50 call for $1

Net Credit: $1.50 + $1 = $2.50

So, we observe that Stock price lies between short call and short put at expiration, both of the options that you sold is worthless and you keep the entire profit by applying short strangle strategy.

Maximum Profit: Net Credit*100 = $2.50*100 =$250

B) Break-even prices will be calculated as:

Upper breakeven = short call strike + credit received

= $50 + $2.50

= $52.50

Lower breakeven = short put strike - credit received

= $40 - $2.50

= $37.50

C) The maximum loss potential is unlimited as the curve shows the unlimited loss potential.

D) If the stock prick declined to $39 on the expiration, the trader still earn profit from the short strangle strategy as the stock price $39 is still above the Breakeven price $37.50.

Amount of Profit = ($39 - $37.50)*100 = $150

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