Deck 14: Options: Puts and Calls

Question 1

Warrants are options that are attached to bond issues to make the bonds more attractive to investors.

Answer 1

True

Question 2

Purchasers of stock options

A) own a financial asset with benefits of firm ownership.
B) have a claim on the profits of the firm issuing the underlying securities.
C) have the obligation to buy or sell a predetermined amount of shares at the strike price.
D) have the right to buy or sell a certain number of underlying shares.

Answer 2

D

Question 3

Investors who purchase options acquire nothing more than the right to buy or sell the shares of the underlying security.

Answer 3

True

Question 4

Writers of option contracts

A) have a limited liability specified in the contract.
B) hope to exercise the option on favorable terms.
C) earn a commission no matter what subsequently happens to the contract.
D) earn a profit when the option expires without being exercised.

Question 5

The ability to obtain a given equity position at a reduced capital investment, and therefore magnify returns, is known as

A) leverage.
B) straddling.
C) hedging.
D) triple witching.

Question 6

Puts and calls are issued by the same corporation that issued the underlying stock.

Question 7

Rights and warrants are the riskiest types of options.

Question 8

Which of the following statements concerning options are correct?
I) Options are derivative securities.
II) The value of an option is dependent upon the value of the underlying security.
III) The seller of the option retains the option premium whether or not the option is exercised.
IV) Options can provide leverage benefits.

A) II and III only
B) I, II and III only
C) I, II and IV only
D) I, II, III and IV

Question 9

The owner a put is obliged to sell the underlying security at the strike price on the date of expiration.

Question 10

One reason that writing options can be a viable and profitable investment strategy is that

A) the option writer collects the quarterly dividends.
B) most options expire unexercised.
C) an option writer determines when the option is exercised.
D) an option writer can exercise the option to avoid a potential loss.

Question 11

The maker of a put or call is the

A) company which issued the underlying security.
B) person who facilitates the trade on the floor of the exchange.
C) party who writes the option.
D) party who decides whether or not the option is exercised.

Question 12

Warrants are short-term options usually expiring within a year or less.

Question 13

Rights are call options issued to current owners of the stock and normally expire within a short period of time.

Question 14

Which of the following is true about rights?

A) They are usually attached to bonds as a "sweetener."
B) The owner has several years in which to exercise the option.
C) They are a type of short-lived call option.
D) They are a type of short-lived put option.

Question 15

Which one of the following statements concerning options is correct?

A) One option covers 1,000 shares of stock.
B) A put gives the option holder the right to buy a stated amount of securities.
C) The owner of a call is entitled to the dividends paid on the underlying shares of stock.
D) Option holders can profit on movements of the price of the underlying security.

Question 16

LEAPS are a special type of option

A) that must be exercised within six months.
B) that can only be exercised on the expiration date.
C) that cannot be exercised for at least a year after it is is purchased.
D) that may have an expiration date as long as three years.

Question 17

Options allow investors to speculate on price movements without a large initial investment.

Question 18

Options are created by investors.

Question 19

Because puts and calls derive their value from the behavior of some other real or financial asset, they are known as derivative securities.

Question 20

An American call option gives the owner

A) the right to buy or sell the stock at the strike price on or before the expiration date.
B) the right but not the obligation to buy the stock at the strike price on or before the expiration date.
C) the right and the obligation to buy the stock at the strike price on or before the expiration date.
D) the right but not the obligation to sell the stock at the strike price on or before the expiration date.

Question 21

The strike price of a put option is the price

A) an investor must pay for the options contract.
B) of the underlying stock at the time that the options contract is purchased.
C) the price at which the underlying stock can be sold.
D) the price at which the underlying stock can be bought.

Question 22

The writer of a put

A) accepts the obligation to sell a predetermined number of shares at a predetermined price.
B) is betting the price of the underlying security will increase in value.
C) is hoping that the put will be in-the-money prior to expiration.
D) will pay the premium whether or not the option is exercised.

Question 23

The option premium is

A) the market price of the option.
B) the amount by which the stock price is expected to move before the option expires.
C) the fee charged by the options exchanges for executing transactions.
D) the difference between the strike price and the underlying price of the security.

Question 24

Listed options trade over-the-counter.

Question 25

American style options can only be exercised on their expiration dates.

Question 26

Listed options

A) are traded directly between the buyer and the seller.
B) are rarely traded in the secondary markets.
C) have readily available price information.
D) are sold over the counter.

Question 27

Which one of the following was the first listed exchange for stock options in the United States?

A) Stock Index Board
B) Philadelphia Board of Trade
C) New York Stock Exchange
D) Chicago Board Options Exchange

Question 28

Technically, listed options expire on the Saturday following the third Friday of the expiration month.

Question 29

The buyer of a listed American option has which of the following rights?
I) the right to change the expiration date
II) the right to change the strike price
III) the right to resell the option
IV) the right to let the option expire unexercised

A) I and III only
B) III and IV only
C) I, III and IV only
D) II, III and IV only

Question 30

European options can only be exercised on the expiration date but can be sold to another investor on any trading day.

Question 31

Which of the following is a possible official expiration date for a standardized option contract?

A) Saturday, October 17
B) Monday, March 1
C) Friday, April 30
D) Wednesday, May 19

Question 32

LEAPS is an acronym for

A) Lehman and Ellsworth Authority Strips.
B) Liability & Equity Asset Securities.
C) LYONS Earnings Anticipation Stocks.
D) Long-Term Equity Anticipation Securities.

Question 33

Stocks options that trade in the January cycle will have contracts available that expire in

A) January, February, April, and July.
B) March, June, September, December.
C) January, February, March, and April.
D) each of the next 12 months.

Question 34

Over-the-counter options are less structured than listed options and are primarily purchased by individual investors.

Question 35

The majority of today's options are stock options traded primarily on the CBOE and on AMEX.

Question 36

Warrants are generally created when

A) a firm decides to execute a stock split.
B) the issuing corporation decides to sweeten a bond issue.
C) a LEAP expires and automatically converts.
D) a financial institution decides to create them based on market conditions.

Question 37

Warrants

A) provide substantially less capital appreciation potential than the underlying stock.
B) tend to be quite costly.
C) have a stipulated price and an expiration date.
D) are not traded in the secondary markets because of their low unit costs.

Question 38

Standardized options expire on the last business day of the expiration month.

Question 39

The party that accepts the legal obligation to stand behind the option is the buyer of the contract.

Question 40

An options strike price is the stock price at which the option holder breaks even.

Question 41

The most important factor affecting the market price of a put or call is the

A) market interest rate.
B) expiration date.
C) price behavior of the underlying common stock.
D) price behavior of the corresponding warrant.

Question 42

The value of a call increases as the price of the underlying security rises.

Question 43

Lew paid $300 to purchase a call on Delta stock with a strike price of $25. What does the market price of Delta have to be for Lew to break-even on his option investment? Ignore transaction costs and taxes.

A) $22
B) $25
C) $28
D) cannot be determined from the information provided

Question 44

The buyer of a put and the writer of the a both profit if the price of the stock falls.

Question 45

The buyer of a put expects the price of the underlying stock to rise.

Question 46

A put option has a strike price of $32. The current price of the stock is $34. The put option is said to be "in-the-money."

Question 47

The option premium is the price of the option.

Question 48

The two provisions which investors should carefully consider when evaluating stock options are the

A) strike price and the exchange ratio.
B) time until expiration and the strike price.
C) leverage ratio and the time to maturity.
D) premium and the discount.

Question 49

One of the major disadvantages of options is

A) their lifespan.
B) their cost.
C) their lack of liquidity.
D) the risk to option buyers.

Question 50

Investors buy options at the bid price and sell at the ask price.

Question 51

Rex bought a put on Alpha stock with a strike price of $35 when the market price of Alpha stock was $33 a share. Alpha is currently selling at $34 a share. Which of the following statements are true given this information?
I) Rex's option is worth at least $100 today.
II) Rex's option is worthless today.
III) Rex's option has more value today than when he bought it.
IV) Rex's option has less value today than when he bought it.

A) I and III only
B) I and IV only
C) II and III only
D) II and IV only

Question 52

For all practical purposes, listed stock options always expire

A) on the last business day of the expiration month.
B) on the first Monday of every calendar quarter.
C) on the third Friday of the expiration month.
D) three months from the date of the option purchase.

Question 53

Which of the following affect the value of puts and calls written on shares of common stock?
I) price volatility of the underlying stock
II) current market price of the underlying stock
III) length of time until the option expiration date
IV) current market interest rate

A) I and II only
B) I, II and III only
C) II, III and IV only
D) I, II, III and IV

Question 54

Grant purchased one call on XYZ stock at an exercise price of $25. The market price of XYZ stock when Grant purchased the call was $24 a share. XYZ is currently priced at $30 a share. Grant paid $120 to buy the call. How much profit will Grant make if he exercises the option today and then sells the shares? Ignore all transaction-related costs.

A) $380
B) $480
C) $500
D) $600

Question 55

NZMA stock is currently selling for $128. Which of the following options is "in-the-money"?

A) March 130 call
B) February 125 call
C) March 125 put
D) February 100 put

Question 56

The price behavior of the underlying security is the primary determinant of the price of an option.

Question 57

The value of a put increases as the price of the underlying security rises.

Question 58

Jason purchased a six-month put on ABC stock at a cost of $100. The strike price was $15. At what market price does Jason just break-even on this investment? Ignore transaction costs and taxes.

A) $15
B) $16
C) $14
D) cannot be determined from the information provided

Question 59

For a call purchased on an organized security exchange, the strike price specifies the

A) contractual price at which each of the shares of the underlying stock can be bought.
B) prevailing market price of one share of the underlying stock.
C) cost of buying one option contact based on the value of the underlying stock.
D) intrinsic value of the offsetting put.

Question 60

Andrea wrote a three-month call on Echo stock. The option cost $200 and the strike price was $10. What does the market price of Echo have to be for Andrea to break-even on this investment if the option is exercised? Ignore transaction construed taxes.

A) $10
B) $12
C) $8
D) cannot be determined from the information provided

Question 61

Nowel Inc. stock is currently priced at $42. The present value of the strike price of a call option on this stock is $44. Probability one, as calculated by the Black Scholes option pricing model is .6541; probability 2 is .3722. The value of this option as calculated by Black-Scholes is

A) $(2.00).
B) $11.10.
C) $2.000.
D) $10.71.

Question 62

Which of the following represent in-the-money options?
I) a call when the market price exceeds the strike price
II) a call when the strike price exceeds the market price
III) a put when the market price exceeds the strike price
IV) a put when the strike price exceeds the market price

A) I and III only
B) I and IV only
C) II and III only
D) II and IV only

Question 63

The writer of a call option is theoretically exposed to an unlimited loss.

Question 64

Once the call premium is recouped, the profit from a call is only limited by the price increases of the underlying stock prior to the contract expiration.

Question 65

Which one of the following options is more expensive? Show all calculations.
(a) A six-month put that carries a $40 strike price on a stock that is currently trading at $35.84, given that the put trades at a 15 percent investment premium; or
(b) A six-month call that carries a $50 strike price on a stock that currently trades at $54.75, while the call trades with a 12 percent investment premium?

Question 66

What is the time premium of a put with a strike price of $25 when the option price is $2 and the underlying common stock sells for $24?

A) $100
B) $200
C) $300
D) $400

Question 67

Jamie wrote a nine-month put on Beta stock. The strike price was $25 and the market price at the time the option was written was $24. The total price of the option contract was $150. At what market price will Jamie just break-even on this investment? Ignore transaction costs and taxes.

A) $23.50
B) $24.00
C) $25.00
D) $26.50

Question 68

If you expect the price of a security to decline, you could buy a call to protect your financial position.

Question 69

The longer the time to expiration, the lower the option time premium tends to be.

Question 70

A put has fundamental value as long as

A) the market price of the underlying financial asset has a positive value.
B) the market price of the underlying financial asset is less than the strike price.
C) the strike price of the put is greater than the time premium of the put.
D) the strike price of the put is less than the market value of the underlying asset.

Question 71

What is the fundamental value of a put contract with a strike price of $25 when the option price is $1.50 and the underlying common stock sells for $26?

A) $150
B) $100
C) $0.00
D) -$100

Question 72

One of the primary advantages of options is the leverage they provide.

Question 73

If a stock price does not rise or fall by the amount of the option premium, the option will not be exercised.

Question 74

Which of the following variables are part of the Black-Scholes option pricing model?
I) the market price of the underlying stock
II) the volatility of the underlying security
III) the strike price of the option
IV) the risk-free rate of interest
V) the beta of the underlying security
VI) the time remaining before the option expires

A) I, II, IV and VI only
B) I, II and III only
C) I, II, III, IV and VI only
D) I, II, III, IV, V and VI

Question 75

The maximum amount the buyer of a put can lose is the cost of the option.

Question 76

What is the fundamental value of a call with a strike price of $30 and a market price of $33?

A) -$300
B) -$3
C) $3
D) $300

Question 77

Option writing can be very profitable because the majority of options are never exercised.

Question 78

Which of the following increase(s) the time premium of a call option?
I) a market price that exceeds the strike price
II) increasing volatility in the market price of the underlying security
III) decreasing market interest rates
IV) decreasing the time to option expiration

A) II only
B) I and II only
C) III and IV only
D) II and III only

Question 79

The maximum loss that can be incurred as the buyer of an option is the amount of the option premium.

Question 80

Options can provide a lot of price action for a limited dollar investment.