 How to Calculate Buy or Sell Call Options on the Series 7 Exam - dummies

# How to Calculate Buy or Sell Call Options on the Series 7 Exam

The most basic options calculations for the Series 7 involve buying or selling call or put options. Although using the options chart may not be totally necessary for the more basic calculations, working with the chart now can help you get used to the tool so you’ll be ready when the Series 7 exam tests your sanity with more-complex calculations.

As you work with options charts, you may notice a pattern when determining maximum losses and gains. Notice that the buyer’s loss is equal to the seller’s gain (and vice versa).

Buying or Selling Maximum Loss Maximum Gain

The key phrase to remember when working with call options is calls same, which means that the premium and the strike price go on the same side of the options chart.

## How to buy call options

The following steps show you how to calculate the maximum loss and gain for holders of call options (which give the holder the right to buy). You will also see how to find the break-even point. Here’s the order ticket for the example calculations:

Buy 1 XYZ Oct 40 call at 5

1. Find the maximum loss.

The holder of an option doesn’t have to exercise it, so the most she can lose is the premium. The premium is five, so this investor purchased the option for \$500 (5 × 100 shares per option); therefore, you enter that value in the Money Out side of the options chart. According to the chart, the maximum loss (the most this investor can lose) is \$500.

2. Determine the maximum gain.

To calculate the maximum gain, you have to exercise the option at the strike price. The strike price is 40, so you enter \$4,000 (40 strike price × 100 shares per option) under its premium (which you added to the chart when calculating maximum loss); exercising the call means buying the stock, so that’s Money Out. When exercising call options, always put the multiplied strike price under its premium.

Because you’ve already determined the maximum loss, look at the Money In portion of the options chart. The Money In is empty, so the maximum gain (the most money the investor can make) is unlimited.

When you see a question about the break-even point, the Series 7 examiners are asking, “At what point does this investor not have a gain or loss?” The simplest way to figure this out for a call option is to use call up (call options go in-the-money when the price of the stock goes above the strike price). When using call up, you add the strike price to the premium:

For this investor, the break-even point is 45. This number makes sense because the investor paid \$5 for the option, so the option has to go \$5 in-the-money for the investor to recoup the amount she paid. The break-even point is always the same for the buyer and the seller.

## How to sell call options

Here, you will find how to find the maximum gain and loss, as well as the break-even point, for sellers of call options. Here’s the order ticket for the example calculations:

Sell 1 ZYX Oct 60 call at 2

1. Determine the maximum gain.

The seller makes money only if the holder fails to exercise the option or exercises it when the option is in-the-money by less than the premium received. This investor sold the option for \$200 (2 × 100 shares per option); therefore, you enter that amount in the Money In side of the options chart.

According to the chart, the maximum gain (the most that this investor can make) is the \$200 premium received. The exercised strike price of \$6,000 (60 × 100 shares) doesn’t come into play when determining the maximum gain in this example because the holder of the option would exercise the option only if it were in-the-money. 2. Find the maximum loss.

To calculate maximum loss, you need to exercise the option at the strike price. The strike price is 60, so you enter \$6,000 under its premium. The \$6,000 goes in the Money In side of the options chart because this investor had to sell the stock to the holder at the strike price (60 × 100 shares). Always enter the multiplied strike price under its premium.

You’ve already determined the maximum gain; now look at the Money Out portion of the options chart. The Money Out is empty, so the maximum loss (the most money the investor can lose) is unlimited.

When you see a question about the break-even point, the examiners are asking you, “At what point does this investor not have a gain or loss?” The simplest way to figure this out for a call option is to use call up. When using call up, you add the strike price to the premium:

For this investor, the break-even point is 62. This makes sense because the investor received \$2 for the option, so the option has to go \$2 in-the-money for this investor to lose the amount that she received for selling the option. Call options go in-the-money when the price of the stock goes above the strike price.