The transaction describes a butterfly spread. The total amount spent on purchasing the calls was $3.50 + $1.00 = $4.50 and the total amount received from the sale of the calls was $2 + $2 = $4 so the investor is - $.50 from the purchase and sale of the calls. The first exercise price on one of the calls purchased is $20 so the stock price would have to go up to $20.50 to reach the first breakeven point. At $22.50, the two written calls and the purchased call with the higher strike price will all expire worthless, while the call with the strike price of $20 will be exercised for a profit of $2.50. The total transaction will result in a profit of (+$2.50 + 4.00 - 4.50 = 2). The second breakeven price is $24.50. At this price, the two written calls will breakeven ($2 loss + $2 premium = 0 for each call), the call with the $20 strike price will be exercised for a profit of $1.00 ($4.50 gain - $3.50 premium), and the call with the $25 strike price will expire worthless, resulting in the loss of the $1.00 premium. At a price of $24.50, the total of the transactions will be zero (+$4.00 – 4.00 + 1.00 – 1.00 = 0). |
