Chapter 15: Derivatives Securities: Options Contracts

Question 1

Call Options

Answer 1

gives the holder (buyer) the right, but not the obligation to purchase the underlying security for a specified price (the strike price) within a specified period.

Question 2

when does a call option allow an investor to profit?

Answer 2

when the price of a security increases

Question 3

Put Options

Answer 3

gives the holder (buyer) the right but not the obligation to sell the underlying security for a specified price (the strike price) within a specified period.

Question 4

when does a put option allow an investor to profit?

Answer 4

when the price of a security decreases

Question 5

how much risk is there in purchasing a put option?

Answer 5

limited risk

Question 6

the Writer of an option is a person who is ____________ the security

Answer 6

selling

Question 7

what kind of position does a buyer of an option take?

Answer 7

long position

Question 8

what kind of position does a writer of an option take?

Answer 8

short positions

Question 9

intrinsic value

Answer 9

is the minimum price at which an option will trade. The intrinsic value can never be lower than 0.

Question 10

what is the calculation of the intrinsic value for a call?

Answer 10

stock price - strike price

Question 11

what is the calculation for the intrinsic value of a put?

Answer 11

exercise price - stock price

Question 12

the value of an option calculation

Answer 12

intrinsic value
+
time value

Question 13

time value calculation

Answer 13

is the difference between the premium and the intrinsic value

Question 14

At-The-Money

Answer 14

an option is “At-The-Money” when the market price for the underlying security equals the strike price

Question 15

In-The-Money for a Call Option

Answer 15

Stock price is greater than the strick price

Question 16

In-The-Money for a Put Option

Answer 16

Stock price is less than the strike price

Question 17

Out-of-The-Money for a Call option

Answer 17

stock price is less than the strike price

Question 18

Out-of-The-Money for a Put option

Answer 18

Stock price is greater than the strike price

Question 19

Intrinsic Value Calculation of a Call Option

Answer 19

Market Price - Strike Price

Question 20

Intrinsic Value Calculation of a Put Option

Answer 20

Strike Price
-
Market Price

Question 21

which way does the buyer of a call option want the price to go?

Answer 21

Up

Question 22

which way does the writer of a call option want the price to go

Answer 22

down

Question 23

the buyer of a call option is taking a _________ position.

Answer 23

Long

Question 24

the writer of a call option is taking a _________ position.

Answer 24

Short

Question 25

which way does the buyer of a put option want the price to go?

Answer 25

down

Question 26

which way does the writer of a put option want the price to go?

Answer 26

UP

Question 27

the buyer of a put option is taking a __________ position

Answer 27

Long

Question 28

the writer of a put options is taking a __________ position

Answer 28

Short

Question 29

Protective Put

Answer 29

is a form of portfolio insurance. constructed by combining a long position with a long put option.

Question 30

Covered Call

Answer 30

when an investor who sells a call option also purchases shares in the same underlying stock. This is becuase selling a call option results in unlimited loss and the increase in the value of the underlying security can be used to satisfy the obligation of the call option. This strategy should only be undertaken if the expected volatilty of the underlying stock is low and should not be taken if the investor is bullish

Question 31

Collar

Answer 31

where an investor limits gains and losses in a long stock position by buying a put and selling a call.

Question 32

Long Straddle

Answer 32

when the investor buys a put and buys a call option, with the same strike price and expiration date.

Question 33

When is the long straddle used?

Answer 33

when the price of a security is expected to fluctuate greatly, but the investor does not know which way, up or down.

Question 34

two kinds of embedded options

Answer 34

Warrants Convertible Bonds

Question 35

what is a warrant

Answer 35

A company selling a bond may attach a warrant to it. It provides the holder of the bond the right but not the obligation to purchase additional shares from the issuing company at a specific price within a specific time. some warrants are detachable.

Question 36

what do warrants do

Answer 36

give the holder the right, but not the obligation, to purchase share of the company at a specific price within a specific period.

Question 37

detachable warrants

Answer 37

can be separated and traded separately

Question 38

how long are warrents usually for?

Answer 38

long term - 2 to 10 years.

Question 39

what do convertible bonds allow for?

Answer 39

provide the investor with cash flow and the ability to participate in the potential growth of the underlying security.

Question 40

what are the two components of a convertible bond?

Answer 40

the bond the embedded option

Question 41

Buy a call option: 1. what position? 2. what is max gain? 3. what is min. loss?

Answer 41

1. long position call (S - X - P) 2. Unlimited 3. Premium

Question 42

Sell a call option: 1. what position? 2. what is max gain? 3. what is min. loss?

Answer 42

1. Short position Call 2. Premium 3. Unlimited Sell a call, you're short in the game, Max gain’s the premium, that's your claim. Loss is unlimited, so be aware, Risk is high, handle with care!

Question 43

Buy a put option: 1. what position? 2. what is max gain? 3. what is min. loss?

Answer 43

1. Long position Put 2. Limited (X - P) 3. Premium When you buy a put, you're long in the trade,
The gain's limited, but the risk is well laid.
Your maximum win's when the stock falls to the floor,
The loss is the premium you paid, nothing more.

Question 44

Sell a put option: 1. what position? 2. what is max gain? 3. what is min. loss?

Answer 44

1. Short position put 2. Premium 3. Limited (X - P)

Question 44

Exercising

Answer 44

the right to buy or sell the option security at a specified price.

Question 45

moneyness

Answer 45

a term to describe the relationship between the strike price of an options and the current trading price.

Question 46

expiration

Answer 46

the point in time when the buyer's rights under the call or put termination.

Question 47

the buyer of an options contract

Answer 47

is the holder of the contract

Question 48

the writer of options contracts

Answer 48

is the seller of the contract

Question 49

the difference between american and european options contracts.

Answer 49

american options can be exercised anytime up until the point of expiration. european options can be exercised only on the expiration date.

Question 50

offsetting order

Answer 50

when an investor wants to close out an option position, it will strategically "offset" that position, by making a trade in the opposite position.

Question 51

offsetting order for the buyer (holder) of an option

Answer 51

writing (selling) the same call or put option.

Question 52

offsetting order for the writer of an option

Answer 52

buying the same call or put option.

Question 53

how many shares does a standard options contract represent?

Answer 53

100 shares

Question 54

what is the Payoff

Answer 54

the positive difference between the strike price and the underlying security upon exercise of the option.

Question 55

what is the Payoff calculation for a call option

Answer 55

Stock Price - Exercise price

Question 56

what is the Payoff calculation for a put option

Answer 56

Exercise Price - Stock Price

Question 57

on a short straddle, the loss is ____________

Answer 57

Unlimited