Deck 14: Put and Call Options

Question 1

If an option is traded on more than one exchange, it may be bought, sold, or closed out on any exchange.

Answer 1

True
Explanation: Options are bought and sold through a member broker, the same as other securities.

Question 2

A put or call cannot be purchased for a life of less than the standardized periods of 3, 6, or 9 months.

Answer 2

False
Explanation: In an attempt to satisfy demand for longer-term options, long-term equity anticipation securities (LEAPS) were added and provide options with up to two years of expiration. LEAPS have generally been limited to blue-chip stocks such as Coca-Cola, Dow Chemical, General Electric, IBM, and others. LEAPS have the same characteristics as the short-term options, but because of their long-term nature, they have higher prices.

Question 3

A call option with a speculative premium of $3 and a strike price of $55 with an intrinsic value of $3 may be related to a stock that is selling for $58 per share.

Answer 3

True

Question 4

"In-the-money" and "out-of-the-money" generally mean the same thing regarding put and call options.

Question 5

The maximum possible loss on a strategy of buying put options is limited to the options premium under all circumstances.

Question 6

The strike price refers to the premium paid by the option buyer for the right to exercise the option.

Question 7

The popularity of options is due to the likelihood of an average investor earning superior returns.

Question 8

The Options Clearing Corporation is equally owned by its major trading exchanges.

Question 9

The Options Clearing Corporation functions as a middleman or broker, bringing together writers and buyers of options.

Question 10

Option writers must own common stock in order to write call options on that particular stock.

Question 11

A call option selling for $8 with a $45 strike price on stock with a market price of $40 has a speculative premium of $3.

Question 12

The International Securities Market is an ECN (electronic communication network) trading options and has not been a major factor in its competition with the Chicago Board Options Exchange.

Question 13

Option contracts expire on the last Friday of the month.

Question 14

If an investor buys an option assuming a stock has bottomed out, but the stock continues to fall, the most he or she can lose is the price of the option, including commissions.

Question 15

The International Securities Market is an ECN (electronic communication network) trading options.

Question 16

Option trading thrives under volatile pricing conditions and uncertainty.

Question 17

If the market price is above the strike price, a call is "in-the-money."

Question 18

Long-term equity anticipation securities (LEAPS) are nothing more than a long-term option.

Question 19

A put is an option to buy 100 shares of common stock at a specified price for a given period of time.

Question 20

All option contracts are adjusted for stock splits, stock dividends, or other distributions.

Question 21

An option can be defined as the right, acquired for a consideration, to buy or sell something at a fixed price within a specified period of time.

Question 22

Generally, the higher the beta, the greater the speculative premium.

Question 23

Generally, the longer the exercise period, the lower the speculative premium.

Question 24

Writers of naked call options generally expect stock prices to decline or remain stable.

Question 25

The speculative premium of a put as a percentage of stock price represents the percent decline in the stock price necessary to break even.

Question 26

LEAPS have a maximum time to expiration of 5 years.

Question 27

A straddle is a combination of a put and call on the same stock with the same strike price and expiration date.

Question 28

A call can be used to cover a long position against the risk of rising stock prices.

Question 29

The intrinsic value of a put option is equal to the strike price minus the market price of the option.

Question 30

Much of the liquidity and ease of operation of the option exchanges is due to the role of the Options Clearing Corporation.

Question 31

A put writer exposes himself to the risk of declining stock prices.

Question 32

The writer of a put agrees to sell stock at the strike price.

Question 33

If you buy one option and write one option on the same underlying stock, you are creating a "spread."

Question 34

The total premium for an option consists of an intrinsic value plus a speculative premium, which declines to zero by the expiration date.

Question 35

Calls used to cover a short sale guarantee that no loss can occur.

Question 36

If a stock price increased by 76.5% and the leverage for the option was calculated to be 1.5, the option price increased by 25.5%.

Question 37

A naked option write is a conservative strategy.

Question 38

The intrinsic value of a call option equals the market price minus the strike price of the option.

Question 39

Investors can buy put and call options on stock indexes, such as the Dow Jones Industrial Average and the Standard & Poor's 500.

Question 40

A put is purchased for $5 with a $22 strike price. If the stock ends up at $25, the purchaser breaks even.

Question 41

The leverage strategy of buying call options is based on the idea that:

A)a small change in the price of the underlying common stock can cause a large change in the price of the option.
B)leverage reduces the risk of loss on the option contract.
C)leverage reduces the risk of loss on the portfolio.
D)None of the above

Question 42

LEAPS:

A)are long-term equity anticipation securities.
B)have higher speculative premiums than regular options.
C)are limited to a maximum of 2 years to expiration.
D)All of the above are true

Question 43

Standardized strike prices and expiration dates in the option market:

A)allows for more efficient trading strategies.
B)lowers the time premiums.
C)allows hedgers, speculators, and arbitrageurs to all operate together.
D)A and C

Question 44

Beltran Industries' common stock trades at $42 per share. The 40 call option trades at $4. This option would be:

A)in-the-money by $2.
B)in-the-money by $4.
C)out-of-the money by $2.
D)out-of-the-money by $4.

Question 45

The International Securities Exchange:

A)is an electronic communication network dealing in options.
B)has taken significant market share from the Chicago Board Options Exchange.
C)started trading options in 2000.
D)All of the above are true

Question 46

The total premium (option price) is a combination of a time premium and a speculative premium.

Question 47

Which of the following is NOT a characteristic of put and call options?

A)They are contracts to buy or sell 100 shares of common stock
B)There is always a specified price
C)There is always a specified time period to exercise options
D)All of the above are characteristics

Question 48

Which of the following is NOT an advantage of listed options markets over the previous method of over-the-counter trading?

A)Direct contact between buyers and sellers of options
B)Standardized contract periods and exercise price
C)More certainty and more efficient trading strategies
D)All of the above are advantages

Question 49

Expiration dates in the option market:

A)were expanded by the introduction of LEAPS.
B)are variable depending on the company.
C)are limited to a maximum of 9 months.
D)occur every month on a 12-month calendar basis for each equity option tradeD.

Question 50

A put is said to be "in-the-money" when the strike price is __________ the market price.

A)equal to
B)greater than
C)less than
D)may be more than one of the above, depending on the option premium

Question 51

_________ is a factor which causes the speculative premium to increase.

A)Volatility of the underlying stock as measured by beta
B)Low dividend yield
C)A long exercise period
D)All of the above

Question 52

The difference between selling short and buying a put is that the short seller can lose more than the initial investment.

Question 53

The _____, which functions as the issuer of all options listed on the exchanges, is responsible for the liquidity and ease of operation of the options market.

A)Chicago Board Options Exchange
B)Options Clearing Corporation
C)New York Stock Exchange
D)None of the above

Question 54

The longer the time to expiration, the higher the speculative premium per day.

Question 55

A major disadvantage of using call options to hedge a short position is that:

A)hedging increases the risk of loss on the short sale.
B)the option premium and commission reduce profit potential.
C)the price of the stock may go up.
D)None of the above

Question 56

Dividends on the underlying common stock will affect the option price.

Question 57

_______ was the first organized exchange to trade options, in 1973.

A)The New York Stock Exchange
B)The American Exchange
C)The Chicago Board Option Exchange
D)The International Securities Exchange
E)None of the above

Question 58

A call is said to be "in-the-money" when the strike price is __________ the market price.

A)equal to
B)greater than
C)less than
D)may be more than one of the above, depending on the option premium

Question 59

At the time of expiration, the premium (price) on a call option:

A)reflects risk in addition to intrinsic value.
B)will be equal to the intrinsic value.
C)may be above or below the intrinsic value.
D)None of the above

Question 60

All of the following are advantages of buying call options instead of stock EXCEPT:

A)options represent an opportunity to control shares of stock without making a large dollar commitment.
B)commissions on stock trading are greater than those on options trading.
C)options can be quite conservative and used to reduce risk.
D)All of the above are advantages

Question 61

A straddle is a combination of a put and call on:

A)the same stock, with the same strike price and expiration date.
B)different stocks, with the same strike price and expiration date.
C)different stocks, with different strike price and expirations dates.
D)the same stock, with the same the strike price and different expiration dates.

Question 62

Block Corp. 40 call option is selling for $6, and the common stock is selling for $41. The intrinsic value is:

A)$6, and the speculative premium is $1.
B)$1, and the speculative premium is $5.
C)$1, and the speculative premium is $7.
D)$5, and the speculative premium is $7.

Question 63

The difference between a put and a call option is that:

A)a put is an option to sell common stock at a specified price while a call is an option to buy common stock at a specified price.
B)a call is an option to sell common stock at a specified price while a put is an option to buy common stock at a specified price.
C)a call is an option to buy common stock at a specified price while a put is the option to buy preferred stock at a specified price.
D)a call is an option to sell common stock at a specified price while a put is the option to sell preferred stock at a specified price.

Question 64

A stock is selling for $45.75, with a put option available at a $50 strike that has a premium of $7.50. What is the intrinsic value of the put?

A)$4.25
B)$1.25
C)$3.25
D)$5.25
E)$7.50

Question 65

An Arthur Corp. 25 put option is selling for $3 when the stock is trading at $22.

A)The intrinsic value is $3 and the speculative premium is 0
B)The intrinsic value is $3 and the speculative premium is $3
C)The time to expiration must be very close
D)A and C

Question 66

A stock is selling for $45.75, with a call option available at a $40 strike that has a premium of $7.50. What is the speculative premium of the call?

A)$.75
B)$1.75
C)$5.00
D)$5.75
E)$7.50

Question 67

An investor striving for maximum leverage will generally buy options that are:

A)in-the-money, or slightly out-of-the-money.
B)out-of-the-money, or slightly in-the-money.
C)deep in-the-money.
D)at-the-money.

Question 68

Tom Smith purchases 100 shares of DOUBLE Systems stock for $63 per share and wishes to hedge his position by writing a 100 share call option on his holdings. The option has a $65 strike price and a premium of $8.75. If the stock is selling at $64 at the time of expiration, what will be the overall dollar gain or loss on this covered option play? (Consider the change in stock value as well as the gain or loss on the option.)

A)$975.00
B)$875.00
C)$775.00
D)$100.00
E)$87.50

Question 69

Under what circumstances can the writer of a call option expect to profit?

A)Stock price declines
B)Stock price remains the same
C)The increase in stock price is less than the speculative premium
D)All of the above

Question 70

A stock is selling for $45.75, with a call option available at a $40 strike that has a premium of $7.50. What is the intrinsic value of the call?

A)$.75
B)$1.75
C)$5.00
D)$5.75
E)$7.50

Question 71

A stock is selling for $45.75 with a put option available at a $50 strike that has a premium of $7.50. What is the speculative premium of the put?

A)$4.25
B)$1.25
C)$3.25
D)$5.25
E)$7.50

Question 72

IBM was trading at $100 when Mrs. Peterson bought a 100 call on IBM at a price of $10. Three months later, IBM common stock was trading at $130, and the call option was trading at $33. The leverage factor for this situation would be:

A)11x.
B)3.3x.
C)7.66x.
D)25.38x.

Question 73

All of the following are characteristics of LEAPS except:

A)LEAPS have up to two years to expiration.
B)LEAPS have generally been limited to blue-chip stocks, such as Coca-Cola, Dow Chemical, General Electric, IBM, and others.
C)LEAPS have the same characteristics as the short-term options, in general.
D)LEAPS generally have lower premiums because of their length.

Question 74

A stock is selling for $45.75 with a call option available at a $40 strike that has a premium of $7.50. What percentage of the common stock price does the speculative premium represent?

A)16.39%
B)14.375%
C)12.57%
D)4.38%
E)3.83%

Question 75

Unlike a covered call writer, a naked call writer will always lose if:

A)the stock price rises above the strike price, plus the speculative premium.
B)the stock price declines.
C)a closing transaction is executed.
D)None of the above

Question 76

In general, the speculative premiums (in percent) are higher for:

A)high-beta, low-dividend yield stocks.
B)low-beta, high-dividend yield stocks.
C)high-beta, high-dividend yield stocks.
D)low-beta, low-dividend yield stocks.

Question 77

Assume that a stock is selling for $47 with options available at 20, 30, and 40 strike prices. The 40 call option is at 7 1/2. Calculate the following:
(a) The intrinsic value of the $40 call
(b) Is the call in-the-money?
(c) The speculative premium on the 40 call option
(d) The percent the speculative premium represents of the common stock price

Question 78

Calculate the leverage from holding a call option with a closing price of $3 on February 18 and a closing price of $6.5 on April 6. The stock price on February 18 was $22 and closed at $27 on April 6.

Question 79

An investor who wishes to take advantage of a current stock price, but does not expect to have cash available until a specific date in the future, would probably use the _________ strategy to invest in options.

A)hedging
B)leverage
C)guaranteed price
D)None of the above

Question 80

Assume you purchase 200 shares of stock at $80 per share and wish to hedge part of your position by writing a 100 share option. The option has a strike price of $75 and a premium of $6. If at the time of expiration, the stock is selling at the following prices ($75, $80, $90) what will be your overall gain or loss?