Synthetic Long Call: Buy Stock, Buy Put

Let’s just say that Mr. Chavani feel bullish about stock price of Boltztrade. So, he buys some shares of Boltztrade, but what if he is wrong and stock price of Boltztrade might fall then he will be in loss so to insure minimum loss what he does, he buys a put option on Boltztrade so that he can sell his purchased shares at certain price.

This option will have strike price at which he bought the stock (At The Money(ATM)) or slightly below strike price(Out The Money(OTM)). In case of stock price increment Mr. Chavani will get full benefit of price rise. In case of fall in price of stock price exercise put option (right to sell).

Basically Mr. Chavani capped loss in this manner because put option stops further loss.It is strategy with limited loss(price of option premium) and unlimited profit because of price rise. The result of this strategy is similar to call option therefore it is called as synthetic call. But the strategy is not buy call option here Mr. Chavani has taken an exposure for underlying stock in aim of price rise, dividends, bonus rights, etc and at the same time taking measures against adverse movement. In simple call option strategy investor will not hold underlying asset. Investor will just take benefit of price movement of underlying stock.

When to use:

When ownership is of stock yet investor is concerned about downside risk. The outlook is conservatively bullish.

Risk:

Loss limited to Strike Price + Put Option Premium - Put Strike Price.

Breakeven:

Put Strike Price + Put Premium + Stock Price - Put Strike Price.

*Breakeven point is with respective of Mr. Chavani he has to recover the cost of put option price + the strike price to break even.

Example :

Boltztrade is at Rs.4000 on 21 April 2018.

Mr.Chavani buys 100 shares of Boltztrade.

He also buy 100 put on Boltztrade with premium Rs.150 with strike price 3900.

Net Debit : Stock bought + Put Option Premium bought,

4000+ 150 = 4150

415000(Net Debit * no. of shares (100)).

Maximum loss : Stock price + Put Option Premium - Put Strike Price.

4000 + 150 - 3900

25000 (Maximum loss * no. of shares (100)).

Maximum Gain : unlimited.

Breakeven point : Put Option Premium + Strike Price.

150 + 4000

415000 (Breakeven point * no. of shares (100)).

Let’s take a look at all the numbers in following table and graph drawn based upon table.

Best Wishes!!