Drawing And Filling Out An Option Profit/Loss Graph

An Option Profit/Loss Graph is the primary tool for option traders to calculate the potential profit or loss on an option position. We need to do this to decide whether the potential profit on an option trade is worth the risk.

Using the profit/loss graph is easy when you understand it, so here, I’ll show how to build one from scratch if there wasn’t a computer to do it for us. I’ll demonstrate how it was done in the covered wagon days, on a sheet of graph paper. This will make it easy to grasp how it works.  (Note to millennials: paper is a substance with two flat surfaces and four straight edges, on which people used to make symbols with writing instruments called pencils, before the invention of screens).

Calculating Profit/Loss on Options

Let’s say, for the sake of example, that SPY closed today at $332 per share and I believe that it will go up further in the next few weeks (not a recommendation, just a for-instance).

I see that there are call options at the $330 strike price that expire in fourteen days. One of these call options gives me the right to buy SPY at $330 at any time within the two weeks. The options can be purchased for $3.00 per share today.

If I buy the calls today for $3.00, how much money can I make if SPY goes up by, say, $4.00 per share? Or any other amount?

Here’s an example with images of how to manually create an option profit/loss graph to calculate whether or not an option trade has viable profit potential:

Creating the Option Profit/Loss Graph (the old-fashioned way):

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