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. Option

    A financial derivative that represents a contract sold by one ...
  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. Time Value

    The portion of an option's premium that is attributable to the ...
  6. Strike Price

    The price at which a specific derivative contract can be exercised. ...
RELATED FAQS
  1. Why would a company issue a rights offering?

    Companies most commonly issue a rights offering to raise additional capital. A company may need extra capital to meet its ... Read Full Answer >>
  2. What is the difference between share purchase rights and options?

    There is a big difference between share purchase rights and options. With share purchase rights, the holder may or may not ... Read Full Answer >>
  3. What is the difference between an option-adjusted spread and a Z-spread in reference ...

    Unlike the Z-spread calculation, the option-adjusted spread takes into account how the embedded option in a bond can change ... Read Full Answer >>
  4. In what ways can a sinking fund affect bond returns?

    The effective yield of a bond sinking fund to an investor should not be considered similar to a bond nonsinking fund. Both ... Read Full Answer >>
  5. Can delta be used to calculate price volatility of an option?

    The delta of an option is a component of the Black-Scholes option pricing formula, which provides the implied volatility ... Read Full Answer >>
  6. What is the difference between a banker's acceptance and a post-dated check?

    Some common financial instruments that speculators use are stocks and financial derivatives. Speculation involves trading ... Read Full Answer >>
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. Investing

    What More Volatility Means For Momentum Stocks

    One byproduct of the recent tick higher in bond yields: a meaningful rise in volatility for both stocks and bonds.
  4. Options & Futures

    How & Why Interest Rates Affect Options

    The Fed is expected to change interest rates soon. We explain how a change in interest rates impacts option valuations.
  5. Investing Basics

    Understanding Notional Value

    This term is commonly used in the options, futures and currency markets because a very small amount of invested money can control a large position.
  6. Options & Futures

    The Risks Of Writing Covered Calls

    While writing a covered call option is less risky than writing a naked call option, the strategy is not entirely riskfree.
  7. Options & Futures

    How Low Can Oil Prices Go?

    Record low oil prices are a welcome development for consumers, but oil companies are struggling with choosing market share over profitability.
  8. Options & Futures

    SEC-Regulated Options Brokers

    Investopedia provides a List Of SEC-Regulated Options Brokers
  9. Options & Futures

    How To Trade Orange Juice Options

    How do orange juice options work and which factors determine the orange juice valuations? Here's a sneak peak into the world of orange juice options.
  10. Fundamental Analysis

    Explaining the Geometric Mean

    The average of a set of products, the calculation of which is commonly used to determine the performance results of an investment or portfolio.

You May Also Like

Hot Definitions
  1. Butterfly Spread

    A neutral option strategy combining bull and bear spreads. Butterfly spreads use four option contracts with the same expiration ...
  2. Unlevered Beta

    A type of metric that compares the risk of an unlevered company to the risk of the market. The unlevered beta is the beta ...
  3. Moving Average - MA

    A widely used indicator in technical analysis that helps smooth out price action by filtering out the “noise” from random ...
  4. Yield Curve

    A line that plots the interest rates, at a set point in time, of bonds having equal credit quality, but differing maturity ...
  5. Productivity

    An economic measure of output per unit of input. Inputs include labor and capital, while output is typically measured in ...
  6. Variance

    The spread between numbers in a data set, measuring Variance is calculated by taking the differences between each number ...
Trading Center