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Long Put Option

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Transcript

Let's discuss long put options. The idea is quite straightforward and similar to when we had long call options, except now we have the right to sell in the future. At a price decided today, instead of the right to buy, we have the right to sell. So let's do an example here. Let's say in order to get this right to buy the put option, we had to pay $1. And now we have the right to sell at $100 in the future.

So when this future time comes, we get to T one. And we now have the right to sell receive money for selling the asset the stock or the bond and will receive that agreed price that strike price of $100 We will now have to pay the value of the asset in the future. And we will account for the original price we paid for that put option. And in this case, we end up with a profit so you You can see how it's a little bit different. But it's the same basic idea, we set up the right to do something. Now what happens again, if in the future, we find out that the price of the asset has actually increased?

Well, once again, we would not exercise output option, because then we would have the right to sell at $100, we have to pay something even more. And then we'd still have to account for that. And we would end up with a negative profit again. So once again, if the price does not go the way you wanted to, in this case, if we have a put option and the price increases, you would just not exercise and you would be just left with your initial upfront cost. So let's now do our overall payoff diagram and see how this looks like if we had our payoff diagram. So this would look something like this.

We have a profit on the x axis and on the y axis and the price of the stock on the x axis. And what's going to happen is we're going to start off with the strike price. So the strike price in this case was $100. And the price of the option, the put option that we had to pay was $1. So we know that we're actually going to start off at the strike price, because that's the most money we can make. If the price of the asset went all the way to zero.

We will be able to sell for $100 and buy it for zero dollars for zero dollars. So in that case, we would make the exact price of the strike price that's where we start. And it's just going to decrease until we get to our price that we paid for the call option. And then if it's anything higher than the price or A production if it's anything higher than the price of a put option, then we're just not going to exercise and we'll just kind of losses at the price of the put option. So this is how your payoff diagram will look like when you're dealing with put options. So once again, it's the right to sell in the future at a price you decide today.

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