The break-even point on an option is the price that the underlying asset has to hit in order to enable the option buyer (holder) to recover their premium.
So if a call option has a strike price of £2.50 and the up-front premium paid is 50p, the underlying share needs to rise to £3 (ignoring dealing costs and spreads) to hit breakeven. That's because the holder could then buy the share from the option writer for £2.50 and sell it on in the stockmarket for £3.
However, the 50p profit simply recovers the premium paid. Note that the option is 'in the money' as long as the underlying share is priced anywhere above £2.50. If it is, say, £2.70 on expiry, the option should be exercised to reduce the holder's 50p initial loss.
MoneyWeek
Subscribe to MoneyWeek today and get your first six magazine issues absolutely FREE
Sign up to Money Morning
Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter
Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter
See Tim Bennett's video tutorial: What are options and covered warrants?
-
Review: Puerto Rico – embrace the spirit of BoricuaTravel Natasha Langan discovers why the indigenous name for Puerto Rico has come to define this Caribbean island’s vibrant culture
-
RICS: Property market confidence falls further as Autumn Budget loomsProperty experts claim buyer confidence dropped for a second month in August, with several citing Budget speculation as a headwind
