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Derivatives【Reading 63】Sample

Regarding buyers and sellers of put and call options, which of the following statements concerning the resulting option position is most accurate? The buyer of a:
A)
call option is taking a long position and the buyer of a put option is taking a short position.
B)
put option is taking a short position and the seller of a call option is taking a short position.
C)
call option is taking a long position while the seller of a put is taking a short position.



The buyers of both puts and calls are taking long positions in the options contracts (but the buyer of a put is establishing a potentially short exposure to the underlying), while writers (sellers) of each are taking short positions in the options contracts.

Greater volatility in the price of the underlying asset will have what effect on the value of a call option and the value of a put option?
Value of a call option Value of a put option
A)
Increase Decrease
B)
Decrease Increase
C)
Increase Increase




Greater volatility in the price of the underlying asset increases the values of both puts and calls because options are “one-sided.” Since an option’s value can fall no lower than zero (it expires out of the money), increased volatility increases an option’s upside potential but does not increase its downside exposure.

TOP

For stock options, which of the following will least likely increase put option values and decrease call option values?
A)
An increase in the riskless rate of interest.
B)
A decrease in the riskless rate of interest.
C)
An increase in the exercise price.



An increase in the riskless rate of interest will decrease put option values and increase call option values.

TOP

An increase in the riskless rate of interest, other things equal, will:
A)
increase call option values and decrease put option values.
B)
decrease call option values and increase put option values.
C)
decrease call option values and decrease put option values.



An increase in the risk-free rate of interest will increase call option values and decrease put option values.

TOP

The lower bound on European call option prices can be adjusted for cash flows of the underlying asset by:
A)
subtracting the present value of the expected dividend payments from the current asset price.
B)
adding the present value of the expected dividend payments to the current asset price.
C)
subtracting the present value of the expected dividend payments from the exercise price.



The correct adjustment is to subtract the present value of the expected dividend payments from the current asset price.

TOP

The put-call parity relation can be adjusted for dividend payments on a stock by which of the following methods?
A)
Add the present value of the expected dividend payments to the exercise price.
B)
Add the present value of the expected dividend payments to the current stock price.
C)
Subtract the present value of the expected dividend payments from the current stock price.



The correct adjustment is to subtract the present value of the expected dividend payments from the current stock price.

TOP

Assume that the value of a put option with a strike price of $100 and six months remaining to maturity is $5. For a stock price of $110 and an interest rate of 6%, what value is closest to the corresponding call option with the same strike price and same expiration as the put option?
A)
$11.99.
B)
$17.87.
C)
$12.74.



Call value = $110 + $5 – $100 / 1.060.5 = $17.87.

TOP

A fiduciary call is a portfolio that is made up of:
A)
a call that is synthetically created from other instruments.
B)
a call option and a bond that pays the exercise price of the call at option expiration.
C)
a call option and a share of stock.




A fiduciary call combines a call option and a bond that pays the exercise price of the call at option expiration.

TOP

Using put-call parity, it can be shown that a synthetic European call can be created by a portfolio that is:
A)
long the stock, long the put, and short a pure discount bond that pays the exercise price at option expiration.
B)
long the stock, long the put, and long a pure discount bond that pays the exercise price at option expiration.
C)
long the stock, short the put, and short a pure discount bond that pays the exercise price at option expiration.



A stock and a put combined with borrowing the present value of the exercise price will replicate the payoffs on a call at option expiration.

TOP

Which statement best reflects the risk exposure of an option buyer?
A)
Unlimited risk.
B)
Limited risk.
C)
No risk.



The most any option buyer can lose is the amount paid for the option.

TOP

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