I have just a quick question regarding the straddle (long call & long put, both at same exercise price).
For the maximum gain, I assume that the stock price rises above the exercise price. This means my put option has 0 value but my call option increases in value the higher the stock goes. So maximum gain is unlimited.
For the maximum loss, I assume that the stock price goes below the exercise price. This means my call option has 0 value but my put option increases in value the lower the stock goes. So shouldn’t be my maximum loss the exercise price less premiums that I paid?
Your max loss is the premium you pay on both the call and the put. While I don’t entirely understand/follow your logic it seems you might be under the impression that there is some element of stock ownership. There is not.
Remember that you’re buying a call and a put with the same strike price. Your worst case scenario at expiration is that the stock = the strike, where you’ll lose 100% of the premium you paid for each.
Payoff charts are nice for this kind of thing…
Your maximum gain on the downside is the strike price less premiums paid (in the image above we paid $400 for the call and the put, we’d gain $3,600 total if the company went under). That is if the stock goes to zero, you’ll be paid for your put but you still lose your initial debit for the position.
