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Call Option - Using derivatives to manage risk and enhance returns in a stock portfolio

So far, things have gone well with Dr. Washington. Before you wrap up your meetings with Dr. Washington and he begins investing, you decide to spend a little time sharing information with him about using derivatives to manage risk and enhance returns in his stock portfolio.

You decide the best way to illustrate this is via a call option that Dr. Washington can use on a stock that might have some upside potential. If the stock does not reach the potential, the option minimizes the risk. The stock is LVO Enterprise, a high tech firm that did well during the Internet boom but declined when the boom turned into a bust. If the company's new portal software is adopted by a large number of consumers over the next few months, you believe the stock can go much higher. The 6-month options are priced at US$1, the strike price is 22, and the current price for LVO stock is 20.

Put a slide presentation together with graphs inserted that illustrate what advice you would give Dr. Washington on the options if the price of the stock was either 18, 21, 24, or 28 at the end of six months. Be sure the graphs tell him at what price he should exercise the call option.

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Solution Summary

The solution through a power point presentation demonstrates the use of call option.