Multiple Choice Answers

1. A single option contract represents the right to buy or sell ______ share(s) of the underlying stock.
a. 1
b. 10
c. 100
d. 1000

2. Options grant the holder the right to either buy or sell shares within a certain time period at an established price, also known as the ____ price.
a. Premium
b. Strike
c. Target
d. Option

3. The vast majority of options contracts held by investors are ultimately closed out:
a. Through being exercised
b. By the investor selling them in the secondary market
c. Through termination by the options clearinghouse
d. By assignment to another investor

4. For the holder of a call option, the contract will have value at the expiration date if the price of the underlying stock is _____ the strike price. For a put, the economics are ______.
a. Above; reversed
b. Below; reversed
c. Above; the same
d. Below; the same

5. Assume you own a call option on IBM stock. The strike price is $50, you paid a $2 premium for the option, and at expiration the price of IBM stock is $47. Your gain/loss on this option contract will be:
a. $(5)
b. $(2)
c. $0
d. $3

6. Assume you own 200 shares of Wal-Mart stock, with today’s market price at $38. You decide to write two covered calls on this stock position, at a strike price of $40, receiving a premium of $3 per share. At expiration the price of Wal-Mart stock is $41. Your gain/(loss) per share from today until expiration date on the stock and the option contract is:
a. $2
b. $3
c. $4
d. $5

7. An investor who buys 100 shares of a stock, plus one put option on the stock, owns a position where her per share downside risk is______, while her per share upside potential is ________.
a. Minimal; large
b. Zero; moderate
c. Limited; infinite
d. Large; finite

8. You own a call option contract. The strike price is $25 and the underlying stock is currently trading at $27.50. The option has 60 days until the expiration date. Without looking up the current trading price of the option you know it is greater than $2.50 because option values are determined by intrinsic value plus _______value.
a. Excess
b. Speculative
c. Trading
d. Time

9. A key point in the use of options is that their impact on the returns and risks of a stock portfolio are NOT:
a. Symmetrical
b. Magnified
c. Leveraged
d. Measurable

10. A primary difference between options on individual stocks and stock-index options is that stock-index options are always:
a. Settled with cash
b. Less volatile
c. Higher priced
d. Written on the S&P 500 index

11. The primary reason forward and futures markets exist is to give investors more choices to:
a. Speculate
b. Manage risk
c. Trade
d. Control commodities

12. Futures markets can be distinguished from forward markets primarily by the standardized nature of contract size, delivery date, and conditions; leaving only _____ and ______ for traders to negotiate.
a. Terms; price
b. Settlement; cash value
c. Price; number of contracts
d. Clearing procedures; settlement

13. Assume you own five contracts for delivery of gold at a specified price. Eventually you will close out the position. Settling your obligation with:
a. A counterparty
b. The securities and exchange commission
c. The national futures association
d. The clearinghouse

14. Although it is acceptable to close out a futures position by delivery of the underlying item, the great majority of futures are closed through:
a. Swap
b. Redemption
c. Reversal
d. Offset

15. Every day all futures contracts are revalued. This provides investors with a reckoning of profits or losses on positions and determines margin requirements through a process called:
a. Market to the market
b. Daily settlement
c. Re-valuation
d. Continuous pricing

16. Hedging is a critically important reason for futures markets to exist, allowing the owner of an underlying item to establish a known future sales price for that item. The basic procedure a futures hedger uses to control risk is to establish a futures position:
a. Similar to the ownership ratio
b. Opposite to the position in the cash market
c. That is long, when inventory is owned
d. That is short, when inventory is anticipated

17. Futures markets would not be nearly as efficient without the presence of speculators, who provide the markets with:
a. Risk inversion
b. Variability
c. Liquidity
d. Hedge bandwidth

18. One of the primary reasons for the growth in financial futures is that portfolio managers seeks opportunities to protect themselves against:
a. Extended bear markets
b. Risk of default
c. Movements in interest rates
d. Political uncertainty

19. Assume you are a portfolio manager with treasury bonds you intend to sell in two months. You are concerned that price movements will erode the value of your bonds. A likely financial choice to reduce your risk is a/an ______hedge.
a. Short
b. Long
c. Anticipatory
d. Net-price

20. As a stock portfolio manager, your frequently use stock index futures to hedge your downside risk. You know that a stock index future is only a partial hedge, meaning your portfolio will still be subject to _______ risk.
a. Time value
b. Interest rate
c. Systematic
d. Basis