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Essential Option Strategies by J. Kinahan

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Appendix B

Strategy Recap

Every options strategy has risks and rewards that can be plotted on a profit/loss line, payoff chart, or risk graph. While many trading software packages can do this in real time with live market prices, what follows is a summary of the simple risk graphs for the strategies outlined in this book. For the sake of simplicity, transaction costs (commissions, contract fees, exercise, and assignment fees) are not accounted for in the examples that follow. But keep in mind that many of the spread strategies discussed utilize two, three, and even four options legs, and the resulting transaction costs should be considered carefully, especially if the strategy might involve the exercise and assignment of more than one contract. In that case, transaction costs can be significant.

Recall that a payoff chart includes a vertical y-axis that shows the profit and loss and a horizontal x-axis that represents changes in the price of the underlying security. The simple risk graph of being long stock (Figure B.1) makes sense, because as share prices move higher, the position increases in value and profits accumulate. As share prices move lower, shares lose value and losses increase. Where the risk line crosses the x-axis, there is no gain or loss. This is the breakeven level. While the breakeven of a long stock is the price paid, the breakeven level for an option or options strategy is the price of the underlying at expiration.

Figure B.1 Long Stock Payoff Chart

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