Risk Graph

AAA

DEFINITION of 'Risk Graph'

A two-dimensional graphical representation that displays the profit or loss of an option at various prices. The x-axis represents the price of the underlying security and the y-axis represents the potential profit/loss. Often called a "profit/loss diagram", this graph provides an easy way to understand and visualize the effects of what may happen to an option in various situations.

Risk Graph

INVESTOPEDIA EXPLAINS 'Risk Graph'

The example above shows the profit/loss potential for a simple long call position of ABC Corp with a February expiration date, strike price of $50.00, contract size of 100 (shares) and a cost of $2.30 per share ($230 total). Notice this graph has three different lines, which represent the profit/loss at three different dates. The dotted line is the profit/loss today, the semi-dotted line is the profit/loss 30 days from today and the solid line is profit/loss on the expiration date (60 days from today). As you can see, as time passes, the time value of the option decreases until it reaches zero, at which point the option-holder has a maximum loss of $230 (the cost of the option contract), which would occur if the option is not exercised. Thus, using these types of graphs, an option-holder can easily view his or her potential profit/loss at or before the expiration date.

RELATED TERMS
  1. Risk Management

    The process of identification, analysis and either acceptance ...
  2. Contract Size

    The deliverable quantity of commodities or financial instruments ...
  3. Exercise

    To put into effect the right specified in a contract. In options ...
  4. Call Option

    An agreement that gives an investor the right (but not the obligation) ...
  5. Expiration Date (Derivatives)

    The last day that an options or futures contract is valid. When ...
  6. Intrinsic Value

    1. The actual value of a company or an asset based on an underlying ...
Related Articles
  1. Options & Futures

    Options Risk Graphs: Visualizing Profit Potential

    With a single diagram, you can see how price, time and volatility affect potential gains.
  2. Options & Futures

    Should Your Options Go Naked?

    Compare naked strategies to credit spreads and see if the unlimited risk of going naked is worth it.
  3. Options & Futures

    Give Yourself More Options With Real Estate Options

    Real estate options have many benefits, including a smaller initial capital requirement.
  4. Options & Futures

    The Fancy Way To Diversify Your Portfolio: Precious Metal Options

    A guide with strategies on how to invest or trade in precious metals by using options.
  5. Options & Futures

    When And How To Take Profits On Options

    Here are the different criteria to ensure maximum profit taking while trading options.
  6. Options & Futures

    The Future Is Now: All About Futures ETFs

    A new security class - futures ETFs - is gaining popularity. We tell you how futures ETFs work and offer tips.
  7. Options & Futures

    How To Protect A Short Position With Options

    Short selling can be a risky endeavor, but the inherent risk of a short position can be mitigated significantly through the use of options.
  8. Options & Futures

    Sensitivity Analysis For Black-Scholes Pricing Model

    Trading options requires complex calculations, based on multiple parameters. Which factors impact option prices the most?
  9. Options & Futures

    How To Make Money WIth Real Estate Options

    Buying real estate options is one way to invest in real estate at a lower entry cost.
  10. Investing

    Understanding the Black-Scholes Model

    The Black-Scholes model is a mathematical model of a financial market. From it, the Black-Scholes formula was derived. The introduction of the formula in 1973 by three economists led to rapid ...

You May Also Like

Hot Definitions
  1. Fixed Cost

    A cost that does not change with an increase or decrease in the amount of goods or services produced. Fixed costs are expenses ...
  2. Subsidy

    A benefit given by the government to groups or individuals usually in the form of a cash payment or tax reduction. The subsidy ...
  3. Sunk Cost

    A cost that has already been incurred and thus cannot be recovered. A sunk cost differs from other, future costs that a business ...
  4. Technical Skills

    1. The knowledge and abilities needed to accomplish mathematical, engineering, scientific or computer-related duties, as ...
  5. Prepaid Expense

    A type of asset that arises on a balance sheet as a result of business making payments for goods and services to be received ...
  6. Gordon Growth Model

    A model for determining the intrinsic value of a stock, based on a future series of dividends that grow at a constant rate. ...
Trading Center