Question 1

A one-year call option on a stock with a strike price of $30 costs $3; a one-year put option on the stock with a strike price of $30 costs $4. Suppose that a trader buys two call options and one put option. The breakeven stock price below which the trader makes a profit is
A) $25
B) $28
C) $26
D) $20

Accepted Answer

When the stock price is $20 the two call options provide no payoff.The put option provides a payoff of 30−20 or $10.The total cost of the options is 2×3+ 4 or $10.The stock price in D,$20,is therefore the breakeven stock price below which the position is profitable because it is the price for which the cost of the options equals the payoff.

Question 2

A trader has a portfolio worth $5 million that mirrors the performance of a stock index. The stock index is currently 1,250. Futures contract trade on the index with one contract being on 250 times the index. To remove market risk from the portfolio the trader should
A) Buy 16 contracts
B) Sell 16 contracts
C) Buy 20 contracts
D) Sell 20 contracts

Accepted Answer

One futures contract covers 250 times the index. To remove market risk from the portfolio, the trader should take a short position (sell futures contracts) on the same number of contracts as the value of the portfolio divided by the (index x 250).

Number of contracts = (Portfolio value / (index x 250)) = (5,000,000 / (1,250 x 250)) = 16

So, the trader should sell 16 futures contracts to remove market risk from the portfolio.

Question 3

Which of the following is NOT true
A) When a CBOE call option on IBM is exercised, IBM issues more stock
B) An American option can be exercised at any time during its life
C) An call option will always be exercised at maturity if the underlying asset price is greater than the strike price
D) A put option will always be exercised at maturity if the strike price is greater than the underlying asset price.

Accepted Answer

When an IBM call option is exercised the option seller must buy shares in the market to sell to the option buyer.IBM is not involved in any way.

Question 4

The price of a stock on February 1 is $48. A trader sells 200 put options on the stock with a strike price of $40 when the option price is $2. The options are exercised when the stock price is $39. The trader's net profit or loss is
A) Loss of $800
B) Loss of $200
C) Gain of $200
D) Loss of $900

Accepted Answer

The payoff is 40−39 or $1 per option.For 200 options the payoff is therefore 1×200 or $200.However the premium received by the trader is 2×200 or $400.The trader therefore has a net gain of $200.

Question 5

Which of the following is approximately true when size is measured in terms of the underlying principal amounts or value of the underlying assets
A) The exchange-traded market is twice as big as the over-the-counter market.
B) The over-the-counter market is twice as big as the exchange-traded market.
C) The exchange-traded market is ten times as big as the over-the-counter market.
D) The over-the-counter market is ten times as big as the exchange-traded market.

Accepted Answer

According to various studies, when size is measured in terms of the underlying principal amounts or value of the underlying assets, the over-the-counter market is generally 10 times as big as the exchange-traded market. Therefore, option D is the correct choice.

Question 6

The price of a stock on February 1 is $124. A trader sells 200 put options on the stock with a strike price of $120 when the option price is $5. The options are exercised when the stock price is $110. The trader's net profit or loss is
A) Gain of $1,000
B) Loss of $2,000
C) Loss of $2,800
D) Loss of $1,000

Accepted Answer

The payoff that must be made on the options is 200×(120−110)or $2000.The amount received for the options is 5×200 or $1000.The net loss is therefore 2000−1000 or $1000.

Question 7

A speculator can choose between buying 100 shares of a stock for $40 per share and buying 1000 European call options on the stock with a strike price of $45 for $4 per option. For second alternative to give a better outcome at the option maturity, the stock price must be above
A) $45
B) $46
C) $55
D) $50

Accepted Answer

When the stock price is $50 the first alternative leads to a position in the stock worth 100×50 or $5000.The second alternative leads to a payoff from the options of 1000×(50−45)or $5000.Both alternatives cost $4000.It follows that the alternatives are equally profitable when the stock price is $50.For stock prices above $50 the option alternative is more profitable.

Question 8

A one-year call option on a stock with a strike price of $30 costs $3; a one-year put option on the stock with a strike price of $30 costs $4. Suppose that a trader buys two call options and one put option. The breakeven stock price above which the trader makes a profit is
A) $35
B) $40
C) $30
D) $36

Accepted Answer

When the stock price is $35,the two call options provide a payoff of 2×(35−30)or $10.The put option provides no payoff.The total cost of the options is 2×3+ 4 or $10.The stock price in A,$35,is therefore the breakeven stock price above which the position is profitable because it is the price for which the cost of the options equals the payoff.

Question 9

An investor sells a futures contract an asset when the futures price is $1,500. Each contract is on 100 units of the asset. The contract is closed out when the futures price is $1,540. Which of the following is true
A) The investor has made a gain of $4,000
B) The investor has made a loss of $4,000
C) The investor has made a gain of $2,000
D) The investor has made a loss of $2,000

Accepted Answer

An investor who buys (has a long position)has a gain when a futures price increases.An investor who sells (has a short position)has a loss when a futures price increases.

Question 10

The price of a stock on July 1 is $57. A trader buys 100 call options on the stock with a strike price of $60 when the option price is $2. The options are exercised when the stock price is $65. The trader's net profit is
A) $700
B) $500
C) $300
D) $600

Accepted Answer

The payoff from the options is 100×(65-60)or $500.The cost of the options is 2×100 or $200.The net profit is therefore 500−200 or $300.

Question 11

Which of the following best describes the term "spot price"
A) The price for immediate delivery
B) The price for delivery at a future time
C) The price of an asset that has been damaged
D) The price of renting an asset

Accepted Answer

Spot price refers to the current market price that an asset can be bought or sold for immediate delivery. This is different from futures prices, which refer to the price of an asset that is contracted for delivery at a future time. The other options are not related to the definition of spot price.

Question 12

Which of the following is true about a long forward contract
A) The contract becomes more valuable as the price of the asset declines
B) The contract becomes more valuable as the price of the asset rises
C) The contract is worth zero if the price of the asset declines after the contract has been entered into
D) The contract is worth zero if the price of the asset rises after the contract has been entered into

Accepted Answer

A long forward contract is an agreement between a buyer and a seller to buy/sell an underlying asset at a predetermined price on a specified date in the future. The buyer of the forward contract hopes that the price of the underlying asset will increase, while the seller hopes that the price will decrease. Therefore, the contract becomes more valuable for the buyer as the price of the asset rises, leading to a profit. If the price of the asset declines, the buyer loses money, but the contract still holds some value. Therefore, option A and C are incorrect. As for option D, if the price of the asset rises, the buyer can still gain profit from the agreed-upon price, so the contract is not worth zero.

Question 13

A short forward contract on an asset plus a long position in a European call option on the asset with a strike price equal to the forward price is equivalent to
A) A short position in a call option
B) A short position in a put option
C) A long position in a put option
D) None of the above

Accepted Answer

The combination of a short forward contract and a long call option with a strike price equal to the forward price is known as a synthetic long call option. This strategy allows the investor to take advantage of upward price movements in the asset, while limiting potential losses if the price decreases. However, this strategy also requires the investor to pay a premium for the call option. If we take the opposite of this strategy, we get a short forward contract and a long put option, which is known as a synthetic long put option. Therefore, a short forward contract and a long call option with a strike price equal to the forward price is equivalent to a long position in a put option.

Question 14

The price of a stock on February 1 is $84. A trader buys 200 put options on the stock with a strike price of $90 when the option price is $10. The options are exercised when the stock price is $85. The trader's net profit or loss is
A) Loss of $1,000
B) Loss of $2,000
C) Gain of $200
D) Gain of $1000

Accepted Answer

The payoff is 90−85 or $5 per option.For 200 options the payoff is therefore 5×200 or $1000.However the options cost 10×200 or $2000.There is therefore a net loss of $1000.

Question 15

Which of the following describes European options?
A) Sold in Europe
B) Priced in Euros
C) Exercisable only at maturity
D) Calls (there are no puts)

Accepted Answer

European options can only be exercised at maturity, whereas American options can be exercised at any time before maturity. This is the key difference between the two types of options. The other choices do not accurately describe European options.

Question 16

A company knows it will have to pay a certain amount of a foreign currency to one of its suppliers in the future. Which of the following is true
A) A forward contract can be used to lock in the exchange rate
B) A forward contract will always give a better outcome than an option
C) An option will always give a better outcome than a forward contract
D) An option can be used to lock in the exchange rate

Accepted Answer

A forward contract can be used to lock in the exchange rate, which will protect the company from adverse movements in the exchange rate. An option may also be used, but it is not always guaranteed to give a better outcome than a forward contract. Additionally, the company may incur a premium for purchasing an option. Therefore, the best choice in this scenario is to use a forward contract to lock in the exchange rate.

Question 17

Which of the following is NOT true
A) A call option gives the holder the right to buy an asset by a certain date for a certain price
B) A put option gives the holder the right to sell an asset by a certain date for a certain price
C) The holder of a call or put option must exercise the right to sell or buy an asset
D) The holder of a forward contract is obligated to buy or sell an asset

Accepted Answer

The holder of a call or put option has the right, but not the obligation, to sell or buy an asset. Therefore, the statement in option C is not true.

Question 18

Which of the following is NOT true about call and put options:
A) An American option can be exercised at any time during its life
B) A European option can only be exercised only on the maturity date
C) Investors must pay an upfront price (the option premium) for an option contract
D) The price of a call option increases as the strike price increases

Accepted Answer

A call option is the option to buy for the strike price.As the strike price increases this option becomes less attractive and is therefore less valuable.A,B,and C are true.

Question 19

A one-year forward contract is an agreement where
A) One side has the right to buy an asset for a certain price in one year's time.
B) One side has the obligation to buy an asset for a certain price in one year's time.
C) One side has the obligation to buy an asset for a certain price at some time during the next year.
D) One side has the obligation to buy an asset for the market price in one year's time.

Accepted Answer

A one-year forward contract is an agreement where one party has the obligation to buy an asset for a certain price in one year's time. The other party has the obligation to sell the asset at that price. This is different from a call option, where one party has the right to buy an asset at a certain price, but is not obligated to do so.

Question 20

Which of the following best describes a central counterparty
A) It is a trader that works for an exchange
B) It stands between two parties in the over-the-counter market
C) It is a trader that works for a bank
D) It helps facilitate futures trades

Accepted Answer

A central counterparty (CCP) stands between two parties in the over-the-counter market, acting as a buyer to the seller and a seller to the buyer. It ensures the performance of the trade, manages risk and helps to facilitate trading in various financial markets. Options A, C and D do not accurately describe a central counterparty.

Quiz 1: Introduction

A one-year call option on a stock with a strike price of $30 costs $3; a one-year put option on the stock with a strike price of $30 costs $4. Suppose that a trader buys two call options and one put option. The breakeven stock price below which the trader makes a profit is

A trader has a portfolio worth $5 million that mirrors the performance of a stock index. The stock index is currently 1,250. Futures contract trade on the index with one contract being on 250 times the index. To remove market risk from the portfolio the trader should

Which of the following is NOT true

The price of a stock on February 1 is $48. A trader sells 200 put options on the stock with a strike price of $40 when the option price is $2. The options are exercised when the stock price is $39. The trader's net profit or loss is

Which of the following is approximately true when size is measured in terms of the underlying principal amounts or value of the underlying assets

The price of a stock on February 1 is $124. A trader sells 200 put options on the stock with a strike price of $120 when the option price is $5. The options are exercised when the stock price is $110. The trader's net profit or loss is

A speculator can choose between buying 100 shares of a stock for $40 per share and buying 1000 European call options on the stock with a strike price of $45 for $4 per option. For second alternative to give a better outcome at the option maturity, the stock price must be above

A one-year call option on a stock with a strike price of $30 costs $3; a one-year put option on the stock with a strike price of $30 costs $4. Suppose that a trader buys two call options and one put option. The breakeven stock price above which the trader makes a profit is

An investor sells a futures contract an asset when the futures price is $1,500. Each contract is on 100 units of the asset. The contract is closed out when the futures price is $1,540. Which of the following is true

The price of a stock on July 1 is $57. A trader buys 100 call options on the stock with a strike price of $60 when the option price is $2. The options are exercised when the stock price is $65. The trader's net profit is

Which of the following best describes the term "spot price"

Which of the following is true about a long forward contract

A short forward contract on an asset plus a long position in a European call option on the asset with a strike price equal to the forward price is equivalent to

The price of a stock on February 1 is $84. A trader buys 200 put options on the stock with a strike price of $90 when the option price is $10. The options are exercised when the stock price is $85. The trader's net profit or loss is

Which of the following describes European options?

A company knows it will have to pay a certain amount of a foreign currency to one of its suppliers in the future. Which of the following is true

Which of the following is NOT true

Which of the following is NOT true about call and put options:

A one-year forward contract is an agreement where

Which of the following best describes a central counterparty