Archive / Investment Adviser (Level 1) / Understanding Derivatives

nism-series-xa-put-option-payoff-calculation-strike-500[ INVESTMENT ADVISER (LEVEL 1) ]

An investor BUYS a Put Option with a Strike Price of ₹500 after paying an upfront premium of ₹25. If the underlying stock price at expiry is ₹420, what is the net profit/payoff per share?

[ A ]+₹475.00 per share

[ B ]+₹80.00 per share (Gross Intrinsic Value)

[ C ]-₹25.00 per share (Total loss)

[ D ]+₹55.00 per share (Intrinsic Value ₹80 minus Premium ₹25)[ CORRECT ]

Takeaway

The put buyer's net payoff is +₹55.00 per share — the ₹80 intrinsic value from exercising the put at ₹500 against a ₹420 market price, minus the ₹25 premium paid upfront.

Derivation

Step 1: A put option is in-the-money when Spot < Strike; here Spot = ₹420 < Strike = ₹500. Step 2: Intrinsic Value = Strike - Spot = 500 - 420 = ₹80. Step 3: Net Payoff for the buyer = Intrinsic Value - Premium Paid = 80 - 25 = +₹55.00 per share. This tests two things at once: correctly identifying moneyness (many candidates reverse call/put intrinsic-value formulas) and remembering that the upfront premium is a sunk cost that must be subtracted from gross intrinsic value to get the actual net profit — a step candidates frequently skip when working quickly under exam time pressure.

Why the others fail

A — +₹475.00 per share

+₹475.00 does not correspond to any correct application of the put payoff formula (Strike - Spot - Premium) to the given figures — it results from a computational error.

B — +₹80.00 per share (Gross Intrinsic Value)

+₹80.00 is the gross intrinsic value (Strike - Spot) only; it fails to subtract the ₹25 premium the investor originally paid to purchase the put, overstating net profit.

C — -₹25.00 per share (Total loss)

-₹25.00 (total loss of premium) would only be correct if the put expired worthless, i.e., Spot >= Strike — but here Spot (₹420) is well below Strike (₹500), so the put has real intrinsic value.