We have a stock we acquired for 36 Its price is 50 now and i

We have a stock we acquired for $36. Its price is $50 now, and its strike price is 38 while its premium is $3. If the market price falls to $32, shall we exercise the put option we already have bought? Why, or why not? If we exercise, what is our ROR/ If we do not exercise, what is our ROR? When would we buy a call option?

Solution

Exercising put option gives a positive cash flow = Max(0,38-32) =6

So we should exercise the put option

Regarding call option we should exercise only when the stock price rises above 38 so as to give positive cash flow as per the payoff formula of call option Max(0, closing-38)

Case 1 :- We exercise our put option

Initial investment = 36+3(premium) =39

Final value = 6(put option) + 32(stock price) =38

Return = 38/39 -1 = -0.02564103

Case 2 :- We didn